The Effects of Network-Sharing Regulation in Telecommunications in the EU and the United States

1. The Effects of Network-Sharing Regulation in Telecommunications in the EU andthe United States Robert W. CrandallThe Brookings Institution PFF/CEPS Conference Brussels February 22, 2007

2. U.S. 1996 Telecom Act Ushered in New Era of Wholesale “Unbundling” Regulation • Required FCC to establish a regime of incumbent local phone- company network unbundling. States established the wholesale prices based on FCC guidance on the appropriate measure of cost • U.S. unbundling regime was followed by Canada in 1997 and the EU in 1998-2001 • In most countries, unbundling was confined to the local loop, the wire from the switching center to the subscriber’s premises • But the U.S. soon extended the policy to line sharing, allowing entrants to lease only the upper frequencies at very low rates. ( The U.S. Court of Appeals overturned line sharing in 2002). The EU followed in 2001-02 • Only the U.S. required “unbundling” of the entire network platform, thereby allowing entrants to resell incumbent services with a regulatory arbitrage margin of 50-60%. (Reversed by Court of Appeals in 2004).

3. The U.S. Experience with Unbundling Has Been Disastrous • Entrants began by offering traditional voice services at about a 15 percent discount to the mass market. • Entrants offered virtually no innovation and no output expansion in the mass market. (Everyone already had a phone, and long distance rates were being driven down by cellular services) Entry simply added marketing costs. Most entrants failed. • The only market in which some net economic benefits may have been produced was the business market, but even the most generous estimate of this benefit is $0.8 billion/year • Unbundling transferred wealth from incumbents to consumers and telemarketers • Entrants reported total capital expenditures of about $60 billion; $50 billion of which likely went to traditional voice/data service competition and was largely wasted

4. The Focus of Telecom Unbundling Regulation Is Now on Broadband • Most OECD countries require unbundling/line-sharing for broadband entrants. U.S. abandoned line-sharing; Canada never mandated it • The contribution to economic welfare of unbundling/line-sharing in broadband markets depends on: • Creation of consumer value through more rapid adoption of broadband and innovative new services • The incremental cost of providing broadband through mandated network sharing • The effect of the network sharing regulations on investment and innovation in the underlying networks, including the incumbents’ networks and the new entrants’ facilities

5. The Most Recent OECD Broadband Data Demonstrate the Importance of Cable-Modem Competition

6. The Effect of Unbundling on Broadband Penetration • Several studies, using U.S. state data or international country data, find little effect of regulated network unbundling on subscriber penetration. • Most find that platform competition from cable television systems contributes significantly to subscriber penetration. • No one has found that network unbundling provides entrants with a “stepping stone” from which they will build their own platforms. • Results are based on very early experience with this policy. Exceptions may be Yahoo! BB in Japan and Iliad in France.

7. Capital Expenditures in Telecom Were Obviously Affected by World- Wide Stock Market Bubble

8. But Some Bubbles in the U.S. Were Much Worse Than Others

9. U.S. Local Incumbent Carriers Have Been Investing More in Their Networks than Have the EU Carriers

10. U.S. Local Incumbent Carriers Have Been Investing More in Their Networks than Have the EU Carriers (II)

11. The U.S.- EU Difference Is Even Greater When Cable Television Is Included

12. The U.S.- EU Difference for All Fixed Wire Carriers (Including CLECs and Long Distance Companies)

13. Regression Analysis of Incumbents’ Capital Expenditures, 2000-05Country Fixed Effects Relative to North America *- Statistically significant at 95% confidence level (1)- Without regulatory variables (2) – With regulatory variables

14. Regression Analysis of Incumbents’ Capital Expenditures, 2000-05 – Regulatory Variables • Variables reflecting existence of unbundling, line sharing, or U.S. UNE-P have limited statistical significance in regression equation • Variable reflecting the degree of DSL competition induced by all types of regulation, including bitstream access and resale, has statistically-insignificant negative coefficients • Variable reflecting DSL share due to unbundling has statistically significant negative coefficient • Conclusion: network sharing regulations tend to be associated with reduced incumbent capital expenditures

15. Conclusion: Evidence on Effect of Mandated Network-Sharing Regulations Is Not Encouraging • No evidence that network-sharing accelerates broadband penetration • Preliminary evidence suggests that such regulation reduces network investment • Network-sharing mandates will create disputes over network architecture – who decides on the technology to be deployed? • Once regulators begin these mandates, they are induced to extend greater and greater support to failing entrants who cannot build their own facilities