Cost and Demand Characteristics of Telecom Networks

1.0 Introduction One of the main reasons to undertake sector specific regulation of telecom markets has been the unique characteristics of cost and demand structures within the telecom sector. This chapter examines some general characteristics of cost and demand for telecom services, and on this background discusses how these affect possibilities for creating competitive telecom service markets. One important economic reason for regulation is to help achieve the optimum level of production from a societal point of view, i.e., to ensure production of the desired products and services in the desired quantities and at appropriate prices for all consumers desiring them. The need for regulation depends on the ability of the market to create this situation by itself. The first basic question is whether production should be organised as planned production with possible corrections by the market, or production should be determined by the market with possible corrections from planners or regulators. Historically, service production in the telecom sector has been organised by a monopoly network operator, selling its services on a market. In many cases the operator has been a part of the public sector and financial profitability has been only one of several objectives. The role of regulation in this situation has been to ensure that the monopolist behaved in accordance with the public interests and did not misuse its monopoly position. The primary economic argument for this institutional set up was that a single operator would be able to provide services at lower rates and with a wider coverage than a market with a number of competing operators. A single operator is in a better position to dimension and plan the construction of the network (technical efficiency) and to avoid duplications of investments and excess capacity. Thereby economies of scale can be fully utilised to the benefit of all customers. In addition a single network operator can better ensure compatibility of all parts of the network, and technical and administrative costs related to network integration and interconnection can be minimised. The experience with this institutional set up has been rather mixed. In practice it has been very difficult both to control tariffs and to ensure high productivity. And the pressure to allow new operators into the market has increased, especially in a situation with rapid technological advances and development of new products. The monopoly operators often have proved unable to meet customer demand in a satisfactory way. …