Essential Facility and One-Way Access: Policy

General Issues for the Design of Access Policies

Access pricing rules are necessarily imperfect for several reasons, which we have regrouped into three categories. Any access pricing rule is an instrument of regulation of the bottleneck owner's rate of return on the bottleneck investment or for that matter of the owner's overall rate of return. As such, it governs the owner's incentives to build and maintain the bottleneck. There is then a trade-off between two considerations: "ex post efficiency," which goes in the direction of fostering competition through access beyond the level that would be spontaneously permitted by the bottleneck owner, and "ex ante efficiency," which suggests giving the bottleneck owner flexibility in exploiting the bottleneck.

The second snag in designing a good access policy comes from the difficulty in defining the notion of "service," and the third relates to the problems associated with the monitoring of compliance of the access policy once services have been defined. The last two difficulties echo those faced in the regulation of retail prices, and so we will content ourselves with illustrating them with wholesale pricing examples.

Liberalization and Deregulatory Takings

A central issue in the creation of competition is whether it breaches the "regulatory contract" between the incumbent operator and the regulators and thus constitutes a taking of the incumbent's property. This issue has already taken center stage in the debates on the deregulation of the power and gas industries in the United States. For example, in the wake of the deregulation initiated by the Public Utility Regulatory Policies Act (PURPA) of 1978 and accelerated by the Energy Policy Act of 1992, which mandates wholesale wheeling, that is, access to a power utility's transmission grid, and eventually retail wheeling, vertically integrated utilities might be left with more than $200 billion of "stranded assets" in generation (the competitive segment). The utilities' earlier investments in nuclear power have proved very costly, and utilities had also been forced by regulators after PURPA to enter into costly supply agreements with "qualifying facilities" (cogenerators and small power producers). Electricity purchasers (large industrial users, distributors) were reluctant to pay the high embedded costs of utility generation, especially at the time when the price of gas had tumbled and new technological developments such as combined cycle gas turbines offered cheap alternative sources of energy.

The debate has centered on the contention that the utilities would have been able to generate a substantial profit "on the upside" if things had turned differently, given that the opening of competition leaves them with a substantial deficit "on the downside." Answering negatively amounts to admitting that the utilities' investment (here in generation) would not have been committed if utilities had been forewarned of incoming competition, or equivalently that, in the absence of proper compensation, liberalization constitutes a regulatory taking. Adopting this view, the California Public Utility Commission announced in 1995 that power utilities in its state will be entitled to full recovery of their stranded costs through an "electricity service surcharge" to be levied on transport (the equivalent of the access surcharge currently paid by long-distance carriers to local exchange carriers for access to the local loop bottleneck, and due to be eliminated in the wake of the Telecommunications Act). However, some other public utility commissions intend to leave a substantial part of the stranded assets burden on the incumbents' shoulders. And American jurisprudence has not yet brought clear guidance with respect to the treatment of stranded assets.

In a competitive environment various regulatory actions have the potential of constituting a taking: low access prices paid by entrants, of course, but also excessive collocation requirements, entry subsidies, rigidity of regulated prices before a competitive threat, uncompensated requirements to add transmission or switching capacity to accommodate new traffic, line-of-business restrictions, and so forth. Recently, the California Public Utility Commission's adoption of a bill-and-keep system (in which two interconnecting carriers do not pay access charges to each other) for interconnection between ILECs and CLECs was challenged by two incumbent local exchange carriers who claimed that the bill-and-keep rule was a taking on the basis that cross-networks call flows would be unbalanced. Sidak and Spulber (1996) argue that the California Public Utility Commission failed to recognize the existence of an obvious taking, despite a 1913 California Supreme Court decision hostile to a bill-and-keep rule (already in telecommunications) on exactly those grounds.

Of course, incumbents have strong incentives to claim that there is a taking whenever regulators and lawmakers contemplate a competitive move. Quite generally, competition-oriented policies must trade off the benefits of entry against the incumbents' incentives to build. No access pricing policy is likely to strike the right balance. The challenge is therefore to design rules that do not err too much with regard to this trade-off.

Definition of Services

As for retail services, the right to define the set of telecommunications wholesale services whose price is to be regulated is by no means obvious. Let us recall a few snags:
  • Changing services: The configuration of the local loop (for example, of the feeder part), the switches' vertical features, and other elements of the local networks are changing rapidly with technological progress. Accordingly it is difficult for price regulators to keep up with the ever-changing range of services and elements to which competitors can have access.
  • Nonlinear tariffs: Nonlinear tariffs amount to a multiplication of services. A linear price for a given service corresponds to a single service; a two-part tariff corresponds to two services: access to the service and variable consumption of the service; and menus of two-part or more-complex tariffs (such as those in optionalcalling plans) correspond to even more services. Discounted wholesale tariffs have made an appearance as a way of countering bypass; with the development of local competition, local exchange carriers will most likely want to enlarge their wholesale pricing options. These changes, of course, will raise the standard problem that current regulatory methods (backward- or forward-looking incremental cost, price cap) are designed for linear prices and are modified in a basically ad hoc way to reflect the nonlinearity of prices.
  • Bundling: Relatedly, carriers may want to offer policies that bundle elements of the network or resale services. Local loop resale is an example of bundling, but one can imagine that local exchange carriers will want to multiply menus of bundles in a competitive environment. Another dimension of bundling is intertemporal bundling. A three- or five-year access contract with volume requirements cannot easily be summarized by a single yearly price.
  • Level of deaveraging: The number of access services and of access prices is an important aspect of access policies. The theory's precept is that there should be as many access services as possible: Maximal unbundling allows entrants to buy access only to what they need. This approach, however, ignores the transaction costs of defining and monitoring access charges. (Imagine, for example, the complexity of cost-based rules that would single out each technologically, chronologically, or geographically differentiated piece of a network as a separate element for which a cost must be assessed!) It also ignores the fact that the multiplication of imperfectly determined access charges increases the possibilities open to entrants in arbitraging by purchasing undervalued pieces and leaving others aside. However, access price averaging also creates scope for substantial arbitrage by entrants (if they can buy individual elements or services separately) by putting together in the same pricing formula services or elements that have different costs or values to the entrants. The level of unbundling and access charge aggregation does matter geographically, in view of varying topologies and customer densities. It also is a subject of an unresolved debate for time-of-day pricing of access. Telephone networks' marginal costs are very small off peak and quite high at peak. While economists rightly argue in favor of peak-load pricing of access, the implementation of peakload pricing still has to be carefully designed. Besides the standard issue of computing off-peak and peak marginal costs, the new and interesting issue in a competitive environment with access is that several operators are jointly responsible for the timing of the peak during the day. This fact may induce some gaming on their part, and in any case adds to the difficulty encountered when foreseeing the location of the peak.

Information Requirements and Compliance Monitoring

A key feature of access pricing rules is their information requirement. To be realistic, access pricing rules must economize on the collection of information by the authorities that are in charge of enforcing them. All existing rules are information demanding. Cost-based rules require information about marginal costs of various elements and services in the bottleneck segment. They also require information about demand either if they make forecasts of capacity utilization (as is the case for forward-looking long-run incremental costs) or if they attempt to adopt a time-of-day structure. ECPR requires information about marginal costs in the competitive segment. Price caps require information about cost and demand in order to set the weights in the caps properly.

Once the access pricing rule is in place, compliance with it must be ensured. Such compliance may be particularly problematic if the rule creates strong incentives for gaming by the incumbents. The only way to ensure compliance then, as we will argue, is to engage in heavy-handed regulation.

Information requirements and the complexity of compliance monitoring are key dimensions of access pricing rules. And one of our concerns with current regulatory reforms is that, beyond the liberalization and free-market rhetoric, one may be creating an environment that will lead to heavy-handed regulatory intervention.

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