The Regulation of Network Industries

Simon Wilkie.Caltech

Lecture for May 7, 2004

2

Overview

• Policy Goals

• Interconnection Definitions

• Pricing Issues

• Lessons from past problems

3

Interconnection Policy

• Goals of Interconnection Policy– The terms and rates for interconnection, traffic

transfer, and access to network elements should encourage

• efficient use of the network• efficient investment in and deployment of network

facilities.

4

Definitions

• ILEC: Incumbent local Exchange carrier is the firm has owns the legacy network of installed local loops and switches

• IXC: Inter Exchange Carrier is q firm whose network links other networks rather than the end customers (also a backbone provider)

• CLEC: Competitive Exchange Carrier os an entrant who does not have a legacy network and leases access on the ILECs network.

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Definitions

• Interconnection is a general term for the way in which different networks connect to

• allow traffic to pass between them;• allow a competitor to gain access to an incumbent’s network

elements

• Access is a general term for the way that customers or competing providers use existing networks.

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Definitions

• Transport and Termination (or Two-way access): the rates once local carrier pays another to complete a local call

• One-way Access: the rates an “IXC” pays a LEC to originate or terminate a long-distance call

• Equal Access is defined where a provider with substantial market power, e.g., an ILEC, is vertically integrated so it is itself a competitor

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Interconnection

• Selecting Points of Physical Interconnection– Even with a single provider, different portions of the

network are identifiable, based on physical, technological, and engineering differences -- e.g., customer premises/inside wiring, line side of end-office switch; trunk side of end-office switch; line side or trunk side of tandem switch.

– Selection of required points of interconnection depends on policy goals, but initial interconnection points reflect “natural” points of interconnection between different portions of the network.

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IXC

IXC

FDI

FDI

Distribution Feeder

Drop/Service

Wire

PBX

CPE + Inside Wiring AccessSwitching

Transport Network

Long Haul

POP

POP

CentralOffice

Tandem

CentralOffice

Interconnection

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Interconnection

• Selecting Points of Interconnection (cont.)– In introducing competition in the long-distance

market, the FCC required interconnection at the end-office and tandem switches.

– In introducing competition into local telephone markets, the FCC mandated additional interconnection points, including central office cross-connect points, out-of-band signaling transfer points and points of access to network elements.

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Pricing Issues -- Overview

• Rate Structure Issues

• Access Pricing Issues

• Past Policy Problems

• Competitively Neutral Cost Recovery

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Pricing Issues – Rate Structure

• Setting efficient rate structures is as important as setting efficient rate levels– Inefficient rate structures cause inefficient use of the

network -- e.g., recovering the sunk cost of a loop through per-minute charges leads to under utilization

– Inefficient wholesale rates cause retail rate distortion– Inefficient rate structure can ca regulatory arbitrage.

• General Principle: Rates should recover costs in a manner reflecting the way they are incurred.

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Pricing Issues – Rate Structure

• Alternative rate structures– Per-minute charges (most long-distance service and

local service in some areas)– Per-call charges (for local calls in some areas)– Flat, monthly charges (most U.S. local service)– Capacity-based charges (certain transport and data

services; wireless bucket of minutes plans)– Single, nonrecurring charges (e.g., cost of initiating

service or or ordering an additional dedicated transport link)

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Pricing Issues - Access

• 3 Types of Access– One-Way Access -- Where one carrier pays for

access to another network, but does not receive payment (e.g., IXC pays both originating and terminating LECs)

– Two-Way Access -- Where each carrier pays the other to transport and terminate traffic. (Also known as “transport and termination” or “reciprocal compensation.”)

– End-User Access -- What end users pay to originate or receive calls

– Problem of distinguishing carriers and end-users.

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Pricing Issues - Access

IXCPOP

ILEC-1CO

ESP/ISPRAS/GW

CLECCO

Circuit Switched Network

Packet Switched/IP Network

ILEC-2CO

MTSO Cellular Network

(3)(2)

(1)

(5)

(6)

(7)

(4)

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Pricing Issues - Access

• Per-Minute Access Rate Levels in the U.S.– One-Way Access -- Interstate Access

Charges• $0.0055/min. for large price-cap carriers• $0.0095/min. for small, high-cost price-cap carriers

– Two -Way Access -- Set by State Regulators• Range from $0.003 to $0.008, with majority in the

range of $0.003 to $0.006. And likely to go lower.• ISP Recip.Comp. Option: (1) $0.0015 for six mos.;• (2) $0.0010 for 18 mos.; (3) $0.0007 thereafter.

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Pricing Issues - Access

• Pricing Termination– Termination charge should recover the traffic-

sensitive cost of the facilities used to terminate traffic -- E.g., central office switch.

– Question: Should termination costs be recovered from the originating carrier or the end-user being called?

– Rate Level -- Should be based on costs• Symmetric v. Asymmetric Rates• Bill and Keep

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Pricing Issues - Access

• Potential for regulatory arbitrage and other problems due to:

• Inefficient or inconsistent rate levels– Ex. 1 -- ISP reciprocal compensation– Ex. 2 -- Internet telephony

• Inconsistent rate structures among different access regimes

– Ex. 1 -- Where incumbent offers flat-rate Internet access to its retail customers, but not wholesale customers -- Creates potential price squeeze problem

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Case Study 1:Regulatory Arbitrage

• ‘96 Act mandated local into local interconnection. Pricing left to states – ILECs asked for high termination fees– Prices ranged from 0.3c to 1.0c minute– CLECs targeted ISPs as customers. Why?

• Almost all ISP traffic is incoming• ISP traffic is “local” • By 1999/2000 ILECs claim billions in losses

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Regulatory Arbitrage Continued

• FCC’s Interim Solution – ILECs could charge a 0.15c for 1st 6 months,

then 0.1c for next 6 months, then 0.07c onwards

– If they offer this rate to all CLECs then termination charges are symmetric.

– Interim solution still in place.

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Case Study 2: Terminating Monopoly Problem

• Only the customer’s carrier can complete the call– Level of retail competition is irrelevant

• CLECs set fee for IXC access– IXCs legally must interconnect with any CLEC– S254(g) Obligation: IXCs cannot price discriminate

regardless of terminating charges– IXC prices based on average costs of initiation and

temination fees across all LECs

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Terminating Monopoly 2

• Some Small CLECs charged 9c even10c minute terminating charges!

• ILECs access charges are regulated and have fallen from 2.5c to 0.55c for large Price Capped carriers. (0.95c for small ILECS)

• FCC Interim Solution – CLEC prices follow a glide path down to ILEC

rates

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Terminating Monopoly 3

• Similar problem in E.U. wireless market• Wireless carriers request high termination

fees from wireline carriers.• Why not a US problem?

– Wireless user billed for usage in the US– Symmetry: Wireless carrier pays same

terminating fee on the wireline network– Most calls terminate on the wireline network– OFTEL solution in the UK: Price regulation

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Pricing Lessons

• In an asymmetric world, Interconnect Prices need to be cost based.

• “Competitively Neutral” Cost Recovery

• For two way interconnection, symmetric rates requirements seems to be an important policy tool