the road to confusopoly-telcos
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Real Consumers and
Telco Choice:
The Road to Confusopoly
Professor Joshua GansMelbourne Business School
University of Melbourne
Presentation to the Australian
Telecommunications Summit,
Sydney, 21stNovember 2005
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I
s Competition Enough? Can competition enable consumer choice?
It is a necessary condition
Consumers need options
But is it sufficient?
Can consumers make the necessary comparisons?
Will competition reduce exploitation ofconsumer irrationality?
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November, 2005CoREresearch
Confusopoly Scott Adams: a group of companies with
similar products who intentionally confuse
customers instead of competing on price.
Examples: energy retailing, insurance,
mortgages, credit cards, etc.
But what about telecommunications?
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November, 2005CoREresearch
Search Model Consider an industry with several producers of an
homogenous product A consumer considering switching suppliers will
switch if:Pold>Pnew + D
where D are switching costs including any disconnectionfees
A consumer will only search for a new supplier if:Expected Savings >S
where Sare search costs
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SleepyI
ncumbent Model Customers may expect to get a better deal if
switching from an incumbent
Implication: entrants should advertise pricing deals (highmarketing spend relative to their market share)
Incumbent may accommodate this by charging higher
prices (Guilietti, Waddams-Price, Waterson, 2005)
Should see incumbent retailers charging a higherprice than entrants in an area
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Energy Retailing In July, 2005, I considered energy retailing in
Victoria
Utilising the Essential Services Commission calculator Ifound that the complex pricing schemes of AGL, Origin
and TRU were identical and equal to the regulated cap
Evidence for the Diamond Paradox
Would telecommunications be better given that it isbased on an incumbent/entrant model rather than adivided incumbent model?
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Which Model for Telcos? Which model applies in telecommunications?
Diamond Paradox or SleepyIncumbent
With this in mind, examined choice between
fixed line versus mobiles for long distance
Are these substitutes for consumers?
(Thanks to Nera for data gathering and analysis)
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Plans (calls to landlines)Telstra
Complete
Telstra Plus
1.49
Optus
Mobile
Vodafone Hutchison
Per minute
charge23c (peak), 15c
(off peak)
24c (peak), 12c
(off peak)60c 60c 70c
Surcharge 35c 35c 20c 20c 30c
Cap
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Assumptions Calls modelled are long distance within Australia, and to mobiles within Australia; Distributions of call durations as below, with means of 5 and 10 minutes
respectively; Ownership of a mobile on a base plan (the lowest cost) is assumed for each
mobile network; Calls switched to mobiles have the same distribution as the distribution they were
drawn from. That is, consumers do not only switch calls of a particular durationfrom fixed to mobiles - this is a future line of analysis;
50% of calls are in the peak period;
70% of calls are to fixed lines, 30% to mobiles. The phone of choice isindependent of whether the call is made in peak period or not this assumption
can easily be relaxed with appropriate data; and 45% of calls to mobiles are to Telstra mobiles (reflecting Telstras share of the
mobile market).
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Call Patterns (5 min average)
0.000
0.002
0.004
0.006
0.008
0.010
0.012
0.014
0.016
0.018
0 2 4 6 8 10 12 14 16 18 20
Duration of call (minutes)
Density
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November, 2005CoREresearch
Switching from Telstra
Complete to Mobile
Optus
Vodafone
Hutchison
5 min
average
Nera analysis
-55
-45
-35
-
5
- 5
-5
5
5
5
35
4
6
8
4
6
Minutes switchedper month
$permonth
Optus Vodafone Hutchison
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Switching from Telstra Plus
1.49 to Mobile
Optus
Vodafone
Hutchison
5 min
average
Nera analysis
-55
-45
-35
-
5
-
5
-5
5
5
5
35
4 6 8
4 6
Minutes switchedper month
$permonth
Optus Vodafone Hutchison
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Switching from Telstra
Complete to Mobile
Optus
Vodafone
Hutchison
10 min
average
Nera analysis
- 0
-4 0
-3 0
-
0
-1 0
- 0
0
1 0
0
3 0
0
00 400 600 800 1000 1
00 1400 1600
Minutes switchedper month
$permonth
Optus Vodafone Hutchison
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November, 2005CoREresearch
Switching from Telstra Plus
1.49 to Mobile
Optus
Vodafone
Hutchison
10 min
average
Nera analysis
-
0
-4
0
-3 0
-
0
-1
0
-
0
0
1 0
0
3 0
0
00 400 600 800 1000 1
00 1400 1600
Minutes switchedper month
$permonth
Optus Vodafone Hutchison
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Summary Difficult to compare price offers
Depends on a consumers specific calling pattern.
Networks differentiate on call duration Mobiles are a potential substitute for fixed line calls
Imperfect analysis but substantial savings possible
SleepyIncumbent (rather than Diamond Paradox
model) alive and well in telcos
Despite competition regulated Telstra prices still important.
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Reform Option? Portuguese Competition Authority analysis
Conclusion:
Wide number of mobile plans difficult for consumer toassess
This impeded price competition
Reform:
Require all networks (and agents) to provide a web-basedprogram to allow consumers to identify the cheapest plan
Supply information to allow regulator to host a programto allow consumers to compare competing plans betweenmobile networks.
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Can competition protect
consumers?
Re-considering bundling
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The contention If consumers can be exploited (i.e., pay for
goods they dont value enough), wont market
forces fix this? If there is competition, there will be at least
some suppliers who will find it profitable to
actually supply consumers with products theyvalue.
So competition protects consumers
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The issue In May, David gets asked to give a talk on
regulation on the 21st November and happily
accepts. On the 17th November, David wishes he
could defer giving the talk even though
nothing has changed.
This lack of self control is common.
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its even worse In May, David does not anticipate that he will
regret, in November, his decision to give the
talk.
This is a common failure to anticipate your
future position it is a naveapproach.
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The point
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F
rom The Onion
LOMPOC, CAThe Bally Total Fitness membership
purchased Monday by Alex Scarbe already appearsdestined for failure. "I really should go buy somenew shoes, so I can come back tomorrow and workout," Scarbe said, moments after completing themembership paperwork. "Just getting in here andsigning up is enough for today. I think I'll reward
myself with a smoothie." Scarbe will return toBally's twice in April, then once in May to use thewhirlpool, and ultimately cancel his membership in2007, when he notices Bally listed on his credit-cardstatement.
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Supplying what they demand If consumers lack self-control but are
otherwise sophisticated, firms will offer
products to help them commit E.g., low unit price for gym visits
If consumers lack self-control but are nave,
firms will exploit this E.g., extract payments for automatic renewal fees
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Behavioural Economics New economic approaches for dealing with
consumer irrationality
Basic idea:When faced with an upfront cost and future
options, consumers with over-weight optionvalue and spend too much upfront
When faced with an upfront benefits and futureavoidable costs, consumers will under-weightability avoid costs and spend too little upfront
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I
mplications for Switching Consumers will under-weight importance of
disconnection fees
Consumers will under-weight ability to opt out ofautomated payments to switch in the future
Consumers will under-weight future switching costs
Consumers will fail to invest in information to make
choices transparentAnd firms will not have an incentive to provide
transparency as consumers will demand more upfront tocompensate for switching costs later on.
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Themes Demand in a market is based on actual consumer
behaviour. For time-based consumption, nave consumers will place
too little weight on future costs and anticipate gettingmore value than they actually receive
Consumers will purchase today more than they would ifthey anticipated their wants in a sophisticated manner
Over-consumption for any given price Competition works to ensure consumers are
supplied with what they demand at a lower price notwith what they want.
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WelfareI
mpact
Supply
Demand
Nave Demand
Pn
Qn
P*
Q*
Welfare
Loss
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Impact of reduced
competition
Supply ith
competition
Demand
Nave Demand
Pn
Qn
P*
Q*
Supply ithout competition
Pm
Qm
Overall elfare is
increased!
Consumer elfare
may not be improved.
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Bundling and add-on pricing
Buy one product (hotel, groceries) and then buyanother (phone calls, petrol)
Consumer reaction Sophisticated consumers anticipate add-on prices and
substitute away (benefit of lower price for initial good)
Nave consumers do not anticipate prices and over-consume
Firms price first good low and naives cross-subsidise sophisticates
Suspicious of bundling without any efficiency orvalue rationale.
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Educating consumers
Under monopoly, May have incentive to educate naives if dont
want to price discriminate against them Under competition,
If educate a nave, then they learn to substituteaway go to another firm and receive cross
subsidy No incentive for a firm to educate
Education is a public good
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Conclusions
Implication of behavioural economics: cannot rely oncompetition to protect nave consumers Difficult to exercise consumer choice
Competition generates more supply of things they dont want Education and information are public goods (under-
provision in market place)
Regulators should focus attention on undesirable practices E.g., disconnection fees, automatic renewal fees, unbundling
Critical for future issues such as cross-media ownership
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