The Market Efficiency Gap

As I have mentioned earlier in my post at http://ictsforall.blogspot.in/search/label/Universal%20Service, Universal Access (UA)/ Universal Service (US) as obligations or policy instruments should ideally come into play when  in spite of effective regulation, liberalization and competition being in place,  the still market fails to serve certain areas or sections of population. The latter is known as the  Actual Access Gap and may arise on account of geographical or socio-economic reasons etc. The former are instruments to close what is known as the Market Efficiency Gap.

Source: WDRP 432(2002) as modified by Archana.G.Gulati 

Some developed and many developing countries may however find themselves in a less than ideal situation where USFs are funding more than the actual access gap on account of failure to  achieve market efficiency.  

An important aspect of effective regulation in today's world is spectrum management. OFCOM's liberalization of spectrum policy in consumer interest a reported at http://www.mobileworldlive.com/uk-regulator-gives-green-light-for-4g-in-2g3g-spectrum is an example of such effective regulation. An article titled "Key to robust telecom policy: Place markets above command and control" that appeared in the Economic Times on July, 8 2013 may also be of interest to readers. It highlights  inter alia the requirement of effective spectrum management in India including flexibility of its usage across technologies.

Regulation and USFs- Support for Rural Wire Lines in India

One of the amendments to the Indian USOF Rules which instituted an exception to the prescription of bidding as a means of selection of Universal Service Providers was carried out in 2008 on the recommendations of the regulator. Vide this amendment, Rs 6000 crore (an amount equivalent to USD one billion today) would be provided to the incumbent Bharat Sanchar Nigam Ltd (BSNL) over a period of three years “operational sustainability of rural wire lines in lieu of Access Deficit Charges being phased out.” 

It has been reported  by the Economic Times on 9.7.13  that BSNL is to get a Rs 1500 crore life line from USOF again.

It may be of interest for readers to know that about 98.6% of USOF funding has gone to support rural wire lines for voice and broadband connectivity. However BSNL which is the recipient of more than 86%  of USOF’s  total subsidy pay out  continues to steadily lose  rural wire line connections. These could have been maintained, improved and expanded by BSNL to provide broadband to rural areas. Much of this infrastructure was  put in place before BSNL was carved out of the Department of Telecommunications. It thus  represents a large amount of government investment besides presenting a huge competitive advantage for BSNL, considering  that it owns 99.9% of rural wire lines and rural India has negligible broadband penetration. This advantage has not been leveraged by BSNL. Nor has unbundling of this infrastructure been carried out in spite of regulatory recommendations.

Against a Rs 1500 crore scheme initiated in January 2009 to support rural wire line based broadband with a scope to add about  18,00,000  connections (with subsidy being linked to the number of connections) BSNL had added less 400000 connections over a period of 3 years.

A USOF Supported Rural Broadband Connection in West Bengal

In this background, it is a moot point whether such additional funding and that too from USOF is justified and whether it will have any positive impact on rural wire lines or broadband.

As far as rural broadband markets go, there are larger regulatory issues involved. Yet, limiting our concerns to USOF it can be cautioned that due care should be taken as to the ends and means in using a Universal Service Funds.  Laxity in maintaining competitive neutrality would tend to have long term negative implications on  the affected markets and defeat the very purpose of Universal Service.

A thought provoking article on public sector enterprises in India may be seen here
http://www.telegraphindia.com/1130708/jsp/opinion/story_17076125.jsp#.UdohM6xhAng

More on USF Programmes with Tariff Discounts

In continuation of my earlier posts on the issue of USF schemes/projects having a tariff discount component, I would like to add some further thoughts. A view has been expressed by a  very experienced USF expert that tariffs discounts in case of voice services, can create artificial differences with non USF areas and discourage operators who must have a business case to invest. I would say that these arguments have merit. In addition to my comments cautioning against being too optimistic about tariff discounts at the bottom of  the post at http://ictsforall.blogspot.in/2013/07/a-discussion-on-tariff-discounts-for.html, I  would like to clarify as follows.

In my previous posts I had alluded to a rural tariff ceiling. This was  set by the telecoms regulator and is pan India. Thus, it covers all rural fixed line subscribers uniformly. However, the regulatory requirement at present is that this tariff plan must be made available. It need not be the only plan. Operators are free to offer other tariff plans. The idea is to ensure that the poor have at least some basic plan for affordable service. Both operators and subscribers have a wide choice in this case.

In India, rural subscribers mostly opt for prepaid plans which ensures that they do not pay more than their budgeted amount. This is true for both  voice (which is almost entirely wireless) and data.  

By discounts in case of USF schemes I mean making available at least some cheaper plans so that the poor can avail of some service. As mentioned above, in the case of voice (fixed) this was mandated by the regulator not by USOF.

In fact when USOF scheme for rural household fixed lines brought in competition from CDMA phones, the Universal Service Providers (USPs) offered extremely attractive prepaid tariff plans with generous free incoming components to attract customers, and with great success in terms of increasing subscription (but not revenue. (Please see http://ictsforall.blogspot.in/2013/06/ensuring-affordability-of-usf-supported.html ).

These plans were far cheaper than the regulator's tariff ceiling plan. Thus, in the case of voice, USOF India did not specify tariff discounts.The USPs responded voluntarily with tariff plans in response to market conditions.

As already explained in my previous post post  http://ictsforall.blogspot.in/2013/06/ensuring-affordability-of-usf-supported.html, for data services (Wire line Broadband Scheme), USOF required entry level plans to be made available during the OBA contract period but the USP could also offer any number of other plans. This has worked well as a means to attract new users who have subsequently upgraded to costlier packages with higher download limits. As far as the operators business case is concerned, USOF calculated subsidy benchmarks assuming that the bulk of rural subscribers would at least initially prefer the cheapest plan. Thus, USPs stood fully compensated for the discounted tariff plan.

Incumbents and National Broadband Networks-Broadband Delivery U.K Project

As I have written earlier, despite our enthusiasm to roll out high speed, fibre based broadband networks, care must be taken not to re-create monopolies. While it may be easier, faster or even cheaper in the short run to rely on the incumbent for such roll outs, in the long run this may prove counterproductive.  The price that we may have to pay for lack of competition and the regulatory burden of ensuring genuine non-discriminatory, open access may literally take us back to the days of fixed line monopolies. There is also a good chance that the none of the  reasons for relying on the incumbent are ultimately validated by the actual roll out experience, in the sense of time and cost savings.

Even when bidding is resorted to, the project and bid design must ensure a level playing field between incumbents and other players. 

A recent news item about the Broadband Delivery U.K Project (BDUK) at  http://www.v3.co.uk/v3-uk/news/2279518/government-rural-broadband-plans-savaged-by-nao-report indicates that  doubts have been raised on this count and  the project has been criticised by the National Audit Office for  favouring British Telecom at the cost of competition and perhaps economy.

The chair of the Public Accounts Committee (PAC) is stated to have said that, 

“The DCMS has not had a good enough grip on its rural broadband programme. In an attempt to reduce public costs and risk, the department has ended up stifling competition,” ….......

"BT has won all 26 contracts so far. It is not much of a competition when you end up with only one supplier actively bidding in a framework, despite nine organisations being interested at the start.” 

A Discussion on Tariff Discounts for USF Supported Services

My esteemed colleague David Rogerson whose query had inspired my previous post on this subject titled "Ensuring Affordability of USF supported Services" has kindly shared his thoughts on the subject. My comments are a placed below his post.

Discount policy for Universal Access & Service Funds (UASF)

By David Rogerson

The objective of the UASF is to promote universal access and service (UAS).  It does this by subsidising network roll-out and customer access in situations where this cannot be achieved commercially.  The subsidy helps to extend the coverage of telecoms services and to make service affordable in these areas.  Such a policy not only benefits areas and customers that are newly connected to the network; it also benefits existing subscribers as they have increased opportunities to communicate with other network subscribers.  This is called a network externality effect. 

In some areas the benefits of USF subsidy, including both the direct benefits to the customers in the newly-connected area and the indirect network externality benefits experienced by all existing subscribers, will be maximised if a tariff discount is offered in the UAS area.  The reason is illustrated in Exhibit 1

Exhibit 1: Justification for tariff discount in UAS areas

The logic of Exhibit 1 may be described as follows:

• The tariff discount will increase demand in the UAS area, as lower prices are more affordable
• The increase in demand will (at least up to a certain point) increase profitability within the UAS area, since the costs of providing service are largely fixed whereas revenues are primarily a function of demand.  
• By setting the discount at the right level the amount of the subsidy required for the area may be minimised.  The level of the discount should theoretically be set at the level that maximises profits: beyond a certain point the loss of revenue from all subscribers in the UAS area paying the lower tariff will outweigh the increase in revenue from the additional subscribers who only come onto the network because of the discount.
• The increase in demand that results from the discount will have two other effects:
• It will increase the network externality benefits
• It will result in economic development within the UAS area . (Academic studies, including those of the World Bank, have shown a close correlation between GDP per head of population and telecom network penetration (i.e. subscribers per head of population).   
• Both of these additional effects are relevant in the construction of a discount policy:
• The increase in network externality benefits may be used to justify the discount policy in the first place
• The increase in economic development may be used to justify the reduction of the required discount level over time.  

A lot more work would be required in order to provide a detailed justification of the actual level of discount that should be provided.  Such work is beyond the scope of the present exercise.  However, based on the existing practice we may propose the taxonomy shown in Exhibit 2.  This suggests that the initial level of discount is established with reference to the ratio between average income levels in the UAS area compared with the nation as a whole; and the evolution of the discount level over time depends on the ratio between network penetration levels in the UAS areas compared with the nation as a whole.  Given that there is likely to be a time-lag between penetration increases and economic development, we further suggest that the discount level for each area is established for a period of 3-5 years at a time.

Exhibit 2: Evolution of UAS tariff discounts over time

My Comments:

David has presented  an interesting  and though-provoking analysis. Some additional considerations may be  as follows:

1. The assumption of incremental or marginal cost per additional subscriber being nominal (per se or compared to the loss of revenue on account of discounts) may not be applicable to all telecommunications services-take for example the case where the last mile involves copper line or OFC connectivity. 

2. Additional customers need not always translate into higher revenues as for example when customers in poor rural areas use the phone mainly to receive rather than make calls. A real example of this was seen in India where CDMA telephones were offered  by USPs with 3 year incoming free prepaid tariff plans (on voluntary basis) to lure more customers.(Additional upfront subsidy was paid for each additional customer added and  maintenance subsidy for customer  retention.) However, the USPs ended up having to pay for minimal recharges to avoid disconnection of these phones, which would have impacted the their subsidy disbursements under the USOF contract. The poor in rural areas would simply not make outgoing calls. They were happy to receive calls as for example from earning family members in urban areas.

3. However, there is no denying the network effect and positive externalities of  having hitherto unconnected citizens join the network. Hence, USF schemes must at times go beyond purely economic cost-benefit analysis at least in the short run and justification for the roll out or discounted tariff may have to encompass a wider socio-economic cost-benefit analysis. In any case, telecommunications services are proven to increase a nation’s competitiveness in the long run making a strong economic case for USF interventions.

4. In some cases as in the case of USOF’s Wire line Broadband scheme (discussed at  http://ictsforall.blogspot.in/search/label/Tariff   the discount strategy pays off in terms of giving customers a taste of a new service. While some subscribers may continue with an entry level plan, others do migrate to the available higher download (more costly) plans, giving the USPs revenues a boost and compensating for the discount and then eventual  withdrawal of subsidy.

5. The smart subsidy concept referred to in my earlier post at  http://ictsforall.blogspot.in/search/label/Tariff,   would thus take into account subsidy needed to fill the revenue gap, including that caused by discounted tariff.

6. If demand projections can be made with some degree of accuracy for the target area/population, an assumption about percentage of disposal income that would be spent on telecommunications (say 2.5-3%) could help us calculate the required discounted tariff to encourage subscription. As a USF Administrator, I would  be more concerned about using the modeled demand projections to calculate a tapering subsidy requirement keeping discounts fixed during the OBA contract period and leaving it to the USP to retain or dismantle discounts thereafter as per its business case. There could be customers who would not be able to afford the non-discounted tariff at least in the short/medium run. Thus, I may have to mandate that some discounted tariff plans continue beyond the contract period or I may have to subsidise these customers on an on-going basis even after the Output Based Aid contract comes to an end.

The Broadband Ecosystem

I reproduce below a news item about the release of an ITU report, "Planning for Progress: Why National Broadband Plans Matter."

• Countries with a clearly-defined national vision for broadband roll-out are significantly out-performing those with a more relaxed approach, according to a new report by the International Telecommunications Union.

• The report observes that there were 134  national broadband plans in place around the world by the middle of 2013, all of which aim to increase usage of broadband-enabled services and applications by citizens and businesses.

• Such plans are found to have a big impact on market penetration of fixed and mobile broadband services, with average penetration around 8% higher for both in those countries with a formalised plan.

• Market competition is also believed to play an important role here, with competitive markets averaging 1% higher penetration for fixed broadband and 26% higher for mobile broadband than those markets with a monopoly.

• Dr Hamadoun I. Toure, secretary-general of the ITU, said: “Governments are realising that broadband networks are not just vital to national competitiveness, but to the delivery of education, healthcare, public utilities like energy and water, environmental management, and a whole host of government services. Broadband is the key enabler not just of human interaction, but of the machine-to-machine communications systems that will underpin tomorrow’s world.”

• The study concludes by stating that the full economic and social benefits are most likely to be realised where there is strong partnership between government and industry, and counsels a consultative, participatory approach to policy in conjunction with key stakeholders.

Source: http://www.iptv-news.com/2013/07/national-broadband-plans-crucial-to-success-says-itu/

The report indicates regional differences different policy in  instruments being used to promote broadband

Most importantly the report highlights the need to focus on the entire broadband ecosystem rather than just the supply side. At present relatively few countries focus on the entire gamut of measures needed for true broadband related inclusion.

It  cites the case of Brazil, as a well formulated plan based on widespread consultation which takes into account the infrastructure provision targets, a conducive regulatory environment combining infrastructure sharing and competition, as well as fiscal incentives.

The results as reported are heartening,

The private sector has responded by accelerating the deployment of infrastructure. There has been significant uptake in both fixed and mobile broadband services – fixed broadband is now available in all 5,565 municipalities of the 27 states in Brazil. Since 2009, total fixed broadband subscriptions have doubled from 10 million to 20 million lines in service.  Mobile 3G services now reach 3,376 municipalities in all states, currently covering 89% of the country´s population. Mobile broadband has exploded from 7 million lines in service in 2009 to 70 million today. Mobile 4G services were recently launched in April 2013 in major State capitals, with extensive coverage targets over the next few years.  Twelve thousand community telecentres have now been equipped and provided with broadband Internet access. 

In India apart from the National Optic Fibre Network-A USF supported project, a clear broadband policy articulation is found in the National Telecom policy 2012.  Please see previous posts on National Broadband Networks and Universal Service more information.

National Broadband Plans-Regulatory Issues

Let me begin by highlighting the tremendous progress made in penetration of  ICTs across the world. The figure below sourced from ITU shows us that mobile voice and data penetration are progressing relatively rapidly while the growth of fixed services is steady but slower. 

However the ITU report also underlines the persistence of the digital divide,

 'ITU estimates show that mobile broadband penetration in the developing world will reach 20 per cent while penetration levels in the developed world will represent 75 per cent by end 2013. Total global Internet users will reach an estimated 2.7 billion worldwide by end of 2013. In developing countries, the number of Internet users will have more than tripled between 2007 and 2013, to reach more than 1.8 billion. Despite this rapid growth, however, less than a third of inhabitants in the developing world will be online by end of 2013.' 

Given the significance of broadband in today's information age and the unacceptability of the digital divide from a socio-economic and political viewpoint, nations across the world are developing plans and strategies to universalize broadband access. 

Different models are adopted ranging from public funding to PPPs to USF subsidies and these should ideally be well thought out policy decisions which weigh short run benefits against long terms costs. All modes  of public funding have the potential to distort competition. This is a recurring theme that I discuss in this blog and would be happy to receive comments/feedback.

Keeping this in view, EU's regulatory framework requires that US funding should be subject to ex ante scrutiny to ensure that it does not not cause market distortions and before state aid is resorted for broadband networks,  a detailed mapping is to be carried out to ascertain inter alia that it is really needed and will not end up not driving out existing/potential private investment.A recent news item talks about such a mapping effort in Ireland. Please see http://www.siliconrepublic.com/comms/item/33271-government-launches-broadba/

State aid to broadband networks in EU has emerged as a major source of funding. (See figure below).Yet it is achieved in a well regulated, competition neutral manner.