Simulation results

Simulation results are obtained in two different situations of competition in the mobile market. In the first one, operators compete in two-part tariffs (consisting of subscription fees and per-minute prices which are linearly related to usage). In the second one, they compete in linear prices (i.e. per-minute prices only). In reality, however, mobile operators offer menus of a variety of contracts, for instance to distinguish themselves from other operators, and to apply implicit price discrimination. In these menus, many contracts have a more complex pricing structure than a two-part tariff or a linear price.

Unfortunately, with the type of model explored here, incorporating that operators compete by offering menus of contracts would render the model virtually intractable.

Hence we explore two relatively simple pricing modes and, by comparing the possible differences in model outcomes, will try to draw more general conclusions.

The results that are derived highlight the different consequences of mark-ups in access prices for fixed-to-mobile (F2M) and mobile-to-mobile (M2M) calls. In current practice, mobile operators typically do not make a distinction between F2M and M2M access prices, which effectively results in uniform F2M and M2M charges. However, as Rey and Jullien (2004) argue, F2M and M2M call termination exhibit fundamentally different characteristics. For instance, M2M access prices can be used as an instrument of tacit collusion. In addition, if mobile operators are asymmetric in the sizes of their customer bases, then increases in the M2M access prices of large operators slow down the growth of smaller rivals. These effects do not occur with regard to F2M access prices. The key issue there is that F2M termination gives rise to wholesale monopolies on individual networks. It is therefore worthwhile to consider F2M as well as M2M access mark-ups, and to compare them to the current practice of uniform F2M and M2M mark-ups.

First, suppose that mobile operators competing in two-part tariffs. Table 5.3 depicts simulation outcomes.

situation

Prices are in cents; profit and surplus levels in millions (Euros).

Table 5.3: Competition in two-part tariffs: basic results on access mark-ups.

Table 5.3 illustrates the following effects of different types of access mark-ups:

1. Uniform (F2M and M2M) and M2M access mark-ups lead to increases in mobile per-minute prices and decreases in mobile subscription fees.

2. Mobile operators’ profits are not affected by mobile access mark-ups (‘profit neutrality’).

3. Uniform (F2M and M2M) access mark-ups and F2M access mark-ups increase consumers surplus and welfare in the mobile sector. M2M access mark-ups have a reverse effect.

4. Uniform (F2M and M2M) and F2M access mark-ups reduce consumers surplus and welfare in the fixed sector. M2M access mark-ups do not affect the fixed sector.

5. All types of access mark-ups reduce total consumers surplus and total welfare.

Interestingly, mobile operators are indifferent about the level of termination access prices. ²¹⁹ The background is that under competition in two-part tariffs, operators, for any level of access prices, set per-minute prices equal to perceived marginal costs and exercise any market power through subscription fees. Any revenues from access prices above marginal costs are competed away in the retail market through lower subscription fees. Thus the model illustrates the so-called ‘waterbed’ effect, as it is called in policy discussions in the UK.

With regard to surplus levels, one can make two central observations. First, F2M access mark-ups increase consumers surplus in the mobile sector at the expense of fixed consumers who ‘pay the price’. Since mobile consumers’ gain does not offset the surplus reduction in the fixed sector, such mark-ups reduce total welfare. Second, M2M access mark-ups do not affect fixed consumers, but do reduce consumers surplus in the mobile sector (for inflated per-minute prices distort calling behavior). Again total welfare is reduced. The effects of F2M access mark-ups on total surplus can also be observed if the

219 This result is well known from the literature on facilities-based competition in telecommunications. See Laffont, Rey and Tirole (1998), and also Dessein (2003). Here we observe that profit-neutrality not only holds for M2M access prices (which corresponds to the results in the literature on facilities-based competition in situations of two-way access), but also to F2M charges. The profit-neutrality would not hold without reciprocity (M2M) or symmetry (F2M) of access prices, or if operators choose access prices unilaterally. In the latter case operators have strong incentives to increase any access price, as it increases profits and market share.

number of fixed subscribers is very small compared to the number of mobile subscribers.

On the one hand, the reduction of surplus in the fixed sector would become much less significant, but on the other hand, the same holds for the increase of consumers surplus in the mobile sector.

Prices are in cents; profit and surplus levels in millions (Euros).

Table 5.4: Competition in linear prices: basic results on access mark-ups.

Table 5.4 illustrates the following effects of different types of access mark-ups:

1. F2M access mark-ups lead to lower mobile per-minute prices, and M2M access mark-ups to higher mobile per-minute prices. The effects of uniform (F2M and M2M) access mark-ups are mixed.

2. Uniform (F2M and M2M) and F2M access mark-ups increase mobile operators’

profits. M2M access mark-ups have the same effect but to a much smaller extent and within a narrower range (due to choking off mobile customers’ demand).

3. Uniform (F2M and M2M) access mark-ups and F2M access mark-ups increase consumers surplus and welfare in the mobile sector. M2M access mark-ups have a reverse effect.

4. Uniform (F2M and M2M) and F2M access mark-ups reduce consumers surplus and welfare in the fixed sector. M2M access mark-ups do not affect the fixed sector.

5. All types of access mark-ups reduce total consumers surplus. Uniform (F2M and M2M) and M2M access mark-ups reduce total welfare. F2M access mark-ups may increase or decrease total welfare.

Contrary to the situation with two-part tariffs, where mobile operators were indifferent, now their profit levels depend sharply on termination access prices. Accordingly, the

‘waterbed’ effect (the additional revenues from access mark-up are competed away in the retail market), observed if operators compete in two-part tariffs, does not occur.

To discuss the effects on surplus levels, we distinguish F2M and M2M access mark-ups.

First, note that F2M access mark-ups increase consumers surplus and profits in the mobile sector at the expense of fixed consumers. The surplus gain in the mobile sector may or may not offset the surplus reduction in the fixed sector, so that the effect on total welfare can go either way. In particular, if the F2M access mark-up is not too high, total welfare may go up, as the aggregate effect on profits and consumers surplus in the mobile sector outweighs fixed consumers’ loss in surplus. Second, again M2M access mark-ups

are neutral for fixed consumers, but do make mobile consumers worse off and reduce total welfare.

The results depicted in the two pricing situations (two-part tariffs and linear pricing) can be seen as extreme cases. In a situation of two-part tariffs, all access revenues are competed away in the retail market so that mobile operators’ profits remain constant.

Under linear pricing, access prices can be used as instruments of tacit collusion, since they increase mobile operators’ profits.²²⁰ While neither of the explored modes of price competition is fully realistic (mobile operators typically use menus of contracts in a world where customers are not identical), the fact that mobile operators seem to care a lot about termination revenues suggests that the linear-pricing model provides useful pointers to understand the nature of competition. In particular, economic theory suggests that the outcomes of competition when operators use menus of contracts to implement price discrimination, tend to resemble the results obtained under linear pricing.²²¹ With price discrimination, for instance, per-minute prices are typically set above (perceived) marginal cost levels, while operators leave some surplus to consumers. Accordingly, the profit-neutrality result in the model with two-part tariffs is unlikely to be realistic.

Nevertheless, it is likely that operators (partly) use termination access revenues to reduce subscription fees and capture market share. That is, the ‘waterbed’ effect probably plays a role in reality, to a certain extent.

220 This is a well-known result from the literature (Armstrong, 1998; Laffont et al., 1998).

221 See Dessein (2003) for references and discussion.