138 The key features of this price control are that, for a pre-specified period of four to five years, the company can make any changes it wishes to prices, provided that the average price of a specified basket of its goods and services does not increase faster than RPI-X, where RPI is the Retail Price Index (i.e. the rate of inflation) and X is a number specified by the government. At the end of the specified period, the level of X is reset by the regulator, and the process is repeated (Beesley and Littlechild, 1989: 455). Price-cap regulation gives the regulated firm the freedom to allocate common costs among the products in a product basket in any way it chooses. It increases the incentives for productive efficiency by the bottleneck owner because for the regulated time period the operator gets to keep any gains in productive efficiency.121 Since the regulated firm’s revenues are maximized by setting the prices inversely proportional to the demand elasticities of the products, the resulting prices have similar efficiency properties as Ramsey-prices. A further advantage of price-cap regulation as compared to cost-based regulation is its lower information requirement. The price of the product basket is calculated as the average price of the products in the relevant product basket, determined with weights that reflect the products’ previous period’s turnover shares. To determine the RPI, the regulator needs to select an appropriate price index. Most difficult is the setting of the right level of X. Here, however, the regulator also can take more liberties than in cost-based regulation. Phasing-out of regulation The last principle of disaggregated regulation is that the dynamics of market evolvement and technological development need to be taken into account. All regulation must be reviewed regularly in order to evaluate whether demand changes or supply changes from innovations or investments have altered the extent of the monopolistic bottleneck network area. If the bottleneck no longer exists or the extent of the bottleneck has shrunk, then the application of regulatory measures must end or be modified (Knieps, 1997: 331ff.). 8.3 Regulation recommendations The first step in applying the disaggregated regulatory approach is to perform a thorough analysis of the extent of the monopolistic bottleneck network area to which regulation is to be applied. Gabelmann (2003, 161ff.) approaches the question of how to define the exact extent of a monopolistic bottleneck by asking what type of competition can be expected in the end-user market and what would be the minimal invasive regulation into the incumbent’s property rights to facilitate this competition. She differentiates especially whether competition can be expected to bring forth price differentiation only or technology variation in the end-user market as 121 In cost-plus regulation the efficiency gains are theoretically “regulated away” as soon as the firm lowers its production costs. 139 well. Whenever technological variation in the end-user market is unlikely due to a lack of technological innovations in the particular market, then competition in the end-user market concentrates on price variation. For price competition a regulation that requires the incumbent to offer its retail products on a wholesale basis is sufficient and complies with the principle of regulating with as little invasion as possible. Whenever technological innovations allow for competition not only in prices but also in technological characteristics, then regulation must require the incumbent to offer access on a level which allows competitors to practice technological differentiation. The following two subsections analyze the extent of the monopolistic bottleneck in local communications infrastructure. 8.3.1 The extent of the monopolistic bottleneck in the public switched telephone network The broadband Internet access market exhibits not only price variation but also technological variations made possible by innovations in transmission technology. ISPs, for instance, offer different upload and download speeds at different quality of service levels. To give competitors the chance of technological variation, access regulation must allow competitors to install their own technology at the main distribution frame (MDF) site and to use this technology together with the bare copper cable connecting the customer premises to this MDF site whenever the local communications infrastructure is considered to include monopolistic bottlenecks. When competitors can combine their own transmission technology, for instance DSLtechnology, with the bare copper cable leading to the customer premises, then they can offer technological characteristics that differ from the offer of the incumbent. From the point of view of the incumbent, granting access to the bare copper cable is more intrusive than offering access on the basis of resale products of own end-user products or on the basis of wholesale bitstream access. This more intrusive regulation is however justified by the fact that it introduces the possibility for technological product differentiation in the end-user market. Blankart et al. (2007) formulate the hypothesis that the extent of the monopolistic bottleneck in local communications infrastructure is shrinking over time. They argue that this is foremost due to the trend towards network convergence. Competition in traditional telecommunications services requires that competitors are given access to more infrastructure elements of the incumbent’s network than is required for effective competition in the broadband-access market. For telecommunications services competition, competitors need to share the local switching facilities of the incumbent in addition to using the local loop. For broadband access, competitors install own technology at the MDF site. When in the future competitive voice services can 140 be offered via broadband access and VoIP technology, the open-access regulation of switching devices will no longer be required.122 8.3.2 The extent of the monopolistic bottleneck in next generation networks There is a controversial debate over the regulation of infrastructure investments that incumbents are currently making into so-called next generation networks (NGNs). The goal of NGN migration is to merge the previously separate voice and data networks into one fully converged network with all IP-based transmission technology. This network will replace the current public switched telephone network (PSTN) and the IP networks. NGN providers plan to offer “triple-play” (voice services, Internet and TV) to their end-users. To this end, NGNs have been defined as networks with bandwidth sufficient to support services that are not supported by current broadband technologies (i.e. simultaneous transmission of high definition television, broadband Internet and voice services). Convergence will decrease network costs as (1) only one network needs to be managed, (2) existing capacity is used more effectively with all-IP transmission, and (3) network maintenance costs are lower in IPbased networks compared to PSTN networks. For the migration to an all-IP NGN network, investments are necessary in local communications infrastructures as well as in long-distance communications infrastructures. In the local network, high-capacity lines need to be built out closer to the end-user. Here the attribute “next generation” generally refers to bandwidth offers of up to 50 Mbps. Generally this is realized by building fiber lines up to the street cabinet (FTTC = fiber-to-the-curb) or up to the end-user premises (FTTH = fiber-to-thehome). In the case of FTTC the bandwidth of the remaining metallic local loop between the street cabinet and the end-user is enhanced with xDSL transmission technology (generally ADSL+ or VDSL). In the long-distance infrastructure of an NGN the existing voice switches need to be replaced by routers and Voice over IP equipment (Marcus, 2006a: 5). The prospects of competing technologies in the local communications infrastructure of NGNs, the so-called next generation access networks (NGA), are not yet clear. In theory, Cable-TV networks, wireless technologies and in some regions even the copper cables can be upgraded to provide bandwidth that would substantially exceed current standards. It is still an open question what types of new applications will be developed for NGNs and what kinds of demand these applications will place on the bandwidth in the access network. Therefore, it is not yet decided which access technologies will be able to compete with FTTH or FTTC in quality and price. The problem for policy makers in regulating investments into FTTH and FTTC facilities in areas, in which they are considered to be monopolistic bottlenecks, is 122 Chapter 9 analyses how regulation of local access has responded to network convergence.