In this study we conduct an evaluation of expected price for
access to local telephone service, at the household level,
where there is competition between two firms.
For demand for
local telephone service, we adopt an inverse demand function
that was developed in an econometric study for residential
demand done by Lewis J. Perl for the BOCs in 1983.[8][9]
This framework uses a discrete choice model (logit) to produce
the logarithm of the odds of having-a-telephone to a
list of selected variables and their estimated coefficients
and asymptotic standard errors. We apply his study using 1990
U.S. Census data for a region covering 14 central office sites
and circa 85,000 households. For the two firms cost functions,
we fit a cost function from 1993 replacement cost data for the
14 service areas, provided by incumbent resources.[7]
We differentiate
the costs of the two providers by the ratio differences between
telephone service facilities and cable service facilities as
provided by the 1993 study by David Reed.[11] We take the demand and
cost functions and apply them to an interactive game model developed
by Green and Porter,
1984.[2] We compute the quantities the two firms
will choose to produce to maximize their present and future
expected value given their strategies. This game model is
a good match to our market conditions. For example, we can expect
few competitors in each service region because of high facilities
costs. Also, the firm's price for access is also public information
and cost structures can be generally known.
We describe the local access market conditions as follows. The U.S. Telecommunications Act of 1996 has preconditioned the entry of facilities based competition within states regional telephone service markets. However, facilities based competition can be a high cost alternative for firms wishing to enter in to a local access market. Therefore, other service offerings or other technology based facilities solutions must exist as incentive for entry. For example, the types of providers for access to local telephone service that we could see in one local market would be:
- Incumbents profile: BOC or LEC organization, using wireline facilities to offer local access to telephone services, slowly replacing infrastructure to offer other telecommunication services to residential markets, with more service options available to centrally located residents and businesses.
- New entrant profile: ALTs, cable service franchise, public utility franchise, or a BOC organization in cooperation with one of the previously listed, using different technology but still wireline facilities, beginning with concentrated entry in central business or residential locations, interested in offering other services with local telephone access.
- New entrant profile: Mobile communications organization, Direct Broadcast Satellite organization, using different wireless technologies, interested in providing local telephone access and other services depending on their spectrum allocations (pager services to broadcast programming, etc).
This diverse list of new entrant profiles suggests that the cost base of the incumbent and that of an entrant would be different. A comparison of different technology based infrastructures was conducted by David Reed. He reported for several types of network builds, the average investment cost per subscriber for a cable company to invest in a new network to compete against a telephone company.[11] We use our own study of investment costs to compute the total network costs of one incumbent access provider and divide this total by the number of households served to compute an average network cost per subscriber for our 14 service areas. We then use Reeds average cost per subscriber figure to represent a new entrant.
In addition to high network investment costs for new entrants, we see a need for new entrants to match the large service portfolios of the incumbent LECs. This will increase the barrier to entry for local access. We assume the number of facility competitors in most geographic markets will be few. We limit our study to only two competitors in one market. For our study, we also make use of an access demand study that focuses on social and demographic parameters rather than on complex service offerings.[8][9]
In summary we simulate the behavior of two competing providers using an interactive game model where parameters were selected to match a current U.S. local access telephone market. We compute the expected price for access for a household and compute the future expected value to the providers. An evaluation of the the number of households served in the study areas is given.