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TOWARDS A FREE TELECOM
MARKET
Paul Beaudry
Istituto Bruno Leoni Mises Conference
October 4, 2008, Sestri Levante
“Many people want the government to protect the
consumer. A much more urgent problem is to protect
the consumer from the government.”
- Milton Friedman
Introduction
• The Context:the telecom industry as a moving target
• The Goal of the reforms of the 1990s: Promoting a smooth
transition to a competitive telecom market by creating incentives
for new entrants
• The Means of the reforms: Network sharing and price
regulation
• The Shortcomings and anticompetitive effects:
 Less innovation,more investment in old technology
 High regulated prices
• The Solution: The recent deregulation
The Regulatory framework
• The Acts
 Telecommunications Act - sets out policy objectives
• Nine potentially inconsistent policy objectives
• objectives (d), (e) and (i) are not intended to enhance
competition
• Overall emphasis on competition, consumer welfare and
innovation
 Radiocommunications Act - addresses licensing of
spectrum and certification of wireless equipment.
The Regulatory framework - cont’d
• The Regulators
 The CRTC: broad powers
• The CRTC has had ample discretion to regulate because
of Governmental inaction in the field
 The Government’s residual power to vary, rescind or
refer a decision back to the CRTC
The Market structure
• The Former Monopolies - Incumbent Local Exchange
Carriers (ILECs). They are regulated by the
Telecommunications Act under a system of price cap
regulation. (they were previously regulated under a
rate of return scheme)
• The « New Entrants » - competitive local exchange
carriers (CLECs) They are largely unregulated.
• This market structure was perpetuated by the twotiered regulatory scheme
The Regulatory Scheme and its
shortcomings
• In general: Price cap regulation on bundles of
services and additional constraints on some
individual services.
• Some important weaknesses:
 Bundling restrictions
 Rate de-averaging
 Win-back rule
 Foreign ownership restrictions
 Mandatory unbundling and mandated network access
 Failure of the stepping stone analysis
The Regulatory Scheme - cont’d
• Bundling restrictions – eliminated in 2006
 The CRTCs imposed floor price constraints on bundles
of regulated and competitive (unregulated) services.
ILECs structured their bundles without regulated local
service to avoid the lengthy approval process.
The Regulatory Scheme - cont’d
• Rate de-averaging – eliminated in 2007
 Consumers in the same geographical area or “rate
band” had to be offered the same rates.
The Regulatory Scheme - cont’d
• Win-back rule – eliminated in 2007
 ILECs were prohibited from soliciting customers who
had been attracted by competitors for a period of 90
days. The maximum duration of promotions was also
limited.
The Regulatory Scheme - cont’d
• Foreign ownership restrictions – still in force
 Ownership and de facto control: Canadians must own
at least 80% of a telecommunications company’s
voting shares and at least 80% of its board of directors
must be Canadians.
 This position on foreign ownership is one of the most
restrictive in the OECD.
The Regulatory Scheme - cont’d
• Mandatory unbundling regulations and essential and
near-essential facilities
 Broad definition of essential and near-essential
facilities
 Categories of wholesale services and regulated
markups
Failure of the Stepping Stone
Hypothesis
• The Rationale:
 Facilitate entry through mandatory access at regulated
rates
 Allow CLECs to amass capital to build their own
networks to enhance competition in the long run
• Without the right regulated rate, this hypothesis is
deemed to fail.
Stepping Stone Hypothesis - cont’d
• The regulated rate:
 must reflect the fact that the substantial cost of
obsolescence, the cost of maintaining and upgrading
networks and the risk inherent in infrastructure
investments is borne only by ILECs
 must be constantly adjusted to reflect the entrant’s
increasing ability to rely on its own facilities.
 must not shield “entrants” from market forces
indefinitely and create a reliance on old technology
Stepping Stone Hypothesis - cont’d
• The failure:
 « The stepping stone hypothesis failed because the
CRTC was unable to set prices at a level low enough
to facilitate entrants’ ability to expand their networks
and more quickly acquire the customer base that
would justify construction of their own facilities but high
enough to provide entrants with sufficient incentives to
build such facilities.” (TRTP report, 2006).
 The unbundling regime slowed down investment and
created dependency on unbundled local loops and rent
seeking.
RECENT POLICY CHANGES
• Two Factors of Change
 Maxime Bernier’s tenure as Industry Minister and his
pro-market approach
 The publication of a report by telecom experts
recommending increased reliance on market
mechanisms (TRTP)
The TRTP report
• Canada is losing its edge in telecom innovation because of its
regulatory scheme.
• The panel recommends the following:
• Market forces should be relied upon to the maximum extent feasible as
the means of achieving Canada's telecommunications policy objectives.
• Regulatory and other government measures should be adopted only
where market forces are unlikely to achieve a telecommunications
policy objective within a reasonable time frame, and only where the
costs of regulation do not outweigh the benefits.
• Regulatory and other government measures should be efficient and
proportionate to their purpose and should only minimally interfere with
the operation of market forces to meet the objectives.
Three major changes
1. The Policy direction – a pro-market approach
2. Variance of the VOIP decision
3. Variance of the Forbearance decision
1.The Policy direction – a pro-market
approach
• Best alternative to a legislative amendment in a
minority government context
• The direction:
The CRTC should rely on market forces to the
maximum extent feasible to regulate only as a last
resort when exercising its powers under the
Telecommunications Act.
2. Variance of the VOIP decision
• What is VOIP?
 Voice Over Internet Protocol: Using the internet
infrastructure and protocol to communicate by phone
• The Issue: Whether VOIP is subject to traditional wireline
regulation?
• The CRTC’s original decision: VOIP is merely “another step in
the evolution of telecommunications networks” and as such,
falls within the purvey of wireline regulation. ILECs providing
VOIP will be regulated. (CLECs will not, because they have no
market power).
VOIP - cont’d
• The CRTC’s Reaffirmed decision: the decision, sent back by
the government in May 2006, was reaffirmed.
• the anomaly of a regulated VOIP: the CRTC decision was
unique, making Canada one of the only countries to apply such
stringent regulation to VOIP.
• Variance by the Government: distinguish “access dependent”
(the provider provides access and service) from “access
independent” (different providers for access and service) and
forbear “access independent” VOIP.
3. Variance of the Forbearance
decision
The Forbearance decision determined the criteria to be met for
ILECs to be forborne from regulation in retail local exchange
services.
• The CRTC’s test: ILECs must lose a 25% market share in a
specific geographic market in order to be forborne from ex ante
pricing regulations. ILECs also have to meet wholesale access
quality of service requirements for a period of six months before
applying for forbearance, and are subject to ninety-day “winback” rule which prohibits them from contacting customers lost
to competitors.
Forbearance - cont’d
• Bernier’s proposal
 A bright-line facilities-based test: A residential market is competitive
when at least two independent facilities-based carriers, including
providers of mobile wireless services, offer llocal exchange
services in addition to the former monopoly.
 The independently-owned carriers must be able to serve 75% of
the number of service lines that the ILEC is capable of serving.
 Abolition of win-back restrictions.
 Streamlining of quality of services requirements for wholesale
access.
 Consider smaller geographic areas for the purpose of local
forbearance applications. This allows to better target markets
where forbearance is not an option and to properly identify
competitive markets.
Forbearance - cont’d
• The idea: Competition as rivalry, not market
structure. The 75% threshold is not a relevant
indicator.
• Under Bernier’s forbearance test, roughly 70% of the
Canadian population lived in telecommunication
markets that were ripe for deregulation.
Forbearance - cont’d
• Why deregulating the telecom industry makes sense?
 Rapid deployment of cable telephony by CLECs in the
Canadian market
 Low barriers to entry into the telephone market for cable
providers
 High barriers to the entry of incumbent telephone providers
into the video market
 Control of wireline networks is no longer a good indicator of
market concentration
 Predatory practices can’t be successful in such a volatile
and innovation-driven industry as telecom
Forbearance - cont’d
• The Varied decision of April 2007: the Government rewrote the
forbearance decision and invited ILECs to file forbearance
applications.
• The CRTC’s reaction: “the government wants to move quickly
toward more reliance on market forces in telecom services, less
regulation and smarter regulation. I welcome the clarity and I
welcome the variation order.”
• The result: As of June 30, 2008, the CRTC had forborne from
regulation over 73% of the residential lines and 65% of the
business lines. Further, approximately 80% of local access and
revenues were from forborne local services.
Conclusion
• Failure of the two-tier regulatory regime and of
mandatory unbundling
 Misallocation of investment
 Lagging innovation
 Rent-seeking to keep the subsidy system in place
• The next step: phasing out mandatory access
• Strong policy leadership can go a long way, even in
the absence of legislative change.