Recent Developments in Canadian Telecommunications Retail Regulation

1
Recent Developments in Canadian
Telecommunications Retail Regulation
David Krause Director Economic Analysis
2
History

• September 1994 CRTC issued Telecom Decision CRTC
  94-19 Review of Regulatory Framework
• Changing telecommunications environment raises
  questions of the appropriateness of rate base
  rate of return regulation
• Market forces allow for greater choice and
  supplier responsiveness and ensure that user
  applications, not regulators, drive supply
  considerations
• Regulation is necessary to ensure that service is
  affordable, where market forces are not
  sufficient to provide that assurance

3
History

• Meaningful regulatory reform could not be
  undertaken without a significant reduction in the
  subsidy that users of long distance services are
  currently providing in order to keep rates for
  local/access service low
• Effective January 1995, a process of rate
  rebalancing occurred which entailed three annual
  increases of 2 per month in rates for local
  service, with corresponding decreases in rates
  for basic long distance service
• CRTC decided to replace earnings regulation with
  price cap regulation effective January 1998

4
History

• May 1997 CRTC issued Telecom Decision CRTC 97-9
  Price Cap Regulation and Related Issues
• Effective January 1998, a four-year price cap
  plan was initiated where certain of the telephone
  companies' Utility segment services were be
  grouped into a single basket of capped services
  subject, in aggregate, to the Price Cap Index
  (PCI)
• The PCI will include the Gross Domestic Product
  Price Index (GDP-PI) as the inflation measure, a
  productivity offset (X-factor) of 4.5 and
  limited exogenous factors arising from events
  which are beyond the telephone companies' control
  

5
History

• The productivity offset or X-factor, in general,
  includes the following components
• the industry TFP
• the economy-wide TFP
• the input price differential defined as the
  difference between the industry and economy-wide
  input price growth rates and
• the consumer productivity dividend (stretch
  factor)
• This productivity offset is derived as follows
• Industry (Historical) TFP 4.2
• less Economy-wide TFP 1.0
• plus Input Price Differential 0.3
• Basic Offset (sub-total) 3.5
• plus Stretch Factor 1.0
• Competition Adjustment 0.0
• Total Target X-factor 4.5

6
History

• May 2002 CRTC issued Telecom Decision CRTC
  2002-34 Regulatory Framework for the Second
  Price Cap Period
• Broad consensus that the initial price cap regime
  provided better incentives for improved
  efficiency and innovation than rate base/rate of
  return regulation
• There were a number of concerns regarding certain
  aspects of the initial price cap regime
• Number of factors have contributed to the slow
  growth of local competition, particularly of
  facilities-based competition

7
History

• Likely that competition in the business market
  will continue to increase over the next few years
  
• In the residential market, however, virtually no
  competition developed during the initial price
  cap period
• Decided it was necessary to introduce a variety
  of adjustments to the price regulation regime
  applicable to the ILECs
• Next price cap regime will involve multiple
  baskets and service groups with individualized
  basket constraints, as well as specific rate
  element constraints in some cases

8
History

• New regime included eight baskets or groups of
  services residential local services in high-cost
  serving areas (HCSAs) residential local services
  in non-HCSAs business services other capped
  services competitor services services with
  frozen rates payphones and uncapped services
• In order to avoid the possibility that the
  operation of the price cap constraints might
  force price reductions that would have a negative
  impact on local competition, the Commission has
  included a deferral account mechanism
• CRTC also explicitly prohibited any further rate
  de-averaging within a rate band for residential
  services, single and multi-line business local
  exchange services, and other capped services

9
Price Caps III

• April 2007, CRTC issued Telecom Decision CRTC
  2007-27 Price Cap Framework for Large Incumbent
  Local Exchange Carriers
• Price cap regulation accounted for almost 7
  billion in annual revenues collectively for the
  large ILECs with over 65 derived from the local
  residential voice market
• Mandated rate reductions through the application
  of an X-factor, could interfere with the natural
  development of market forces
• In HCSAs, rates are generally below cost In
  these circumstances applying an X-factor to the
  revenues associated with these services would not
  be appropriate

10
Price Caps III

• Price ceiling on residential rates in non-HCSAs
  would provide customers with a safeguard against
  unreasonable rate increases
• Reasonable to allow the ILECs to increase
  residential PES rates in HCSAs by the annual rate
  of inflation but to protect against any
  unexpected rise in the rate of inflation, a rate
  element constraint equal to the lesser of the
  annual rate of inflation or 5 will apply to the
  services in the Residential HCSAs Services basket
• The Companies submitted that uniform pricing led
  to economic inefficiencies and inhibited
  efficient pricing decisions
• Appropriate to remove the prohibition on further
  rate de-averaging for residential services

11
Local Forbearance

• Timothy Brennan Skating Towards Deregulation
  Canadian Developments Federal Communications Law
  Journal available at http//www.law.indiana.edu/f
  clj/pubs/v60/no2/Brennan.pdf
• April 2004, Aliant Telecom, petitioned the CRTC
  to forbear from requiring approved tariffs for
  local service in 32 of its exchanges
• Aliant also requested that the CRTC remove
  winback rules
• Aliants primary argument was that it was facing
  significant competition in those service areas
  from a facilities-based entrant, EastLink

12
Local Forbearance

• April 2005, the CRTC issued a public notice
  requesting comment on the standards for
  forbearing from regulation of local service,
  including changing or amending the rules on
  winback and waiving switching charges
• CRTC stated that forbearance would not be
  appropriate if the incumbent has substantial
  market power.
• CRTC would assess market power by looking at
  market share, willingness of consumers to switch
  to other providers in response to an increase in
  price, and the ability of those rivals to
  increase output in response to that demand

13
Local Forbearance

• April 2006, CRTC issued Telecom Decision CRTC
  2006-15 Forbearance from the Regulation of
  Retail Local Exchange Services
• No longer can exercise market power if
• (a) The ILEC has suffered a 25 percent market
  share loss in the relevant market for which
  forbearance is sought (market share loss)
• (b) The ILEC has, for the six months prior to
  the application, met individual standards for
  each of the 14 specified competitor Q of S
  indicators
• (c) The ILEC has put in place the necessary
  Competitor Services tariffs
• (d) Where the Commission has required it, the
  ILEC has implemented competitor access to its
  OSS and
• (e) The ILEC has demonstrated to the
  Commission's satisfaction that rivalrous
  behaviour exists within the relevant market
  (rivalrous behaviour).

14
Local Forbearance

• Controversies were whether this share was too
  high and whether calculating shares based on
  wireline connections unduly excluded wireless
  phone service from the relevant service market
• CRTC claimed that the appropriate geographic
  market on the basis of common interests and
  circumstances would be the census metropolitan
  area (CMA), with rural Canadian geographic
  markets identified as economic regions
• Commission's view, it is the loss of customers to
  competitors by an applicant ILEC which best
  demonstrates that an ILEC's market power may be
  diminished

15
Local Forbearance

• Commission considers that the applicant ILEC
  market share loss level should be set at a level
  that, when taken into consideration with the
  other criteria, demonstrates that competition in
  that relevant market is sustainable
• Prime concern of the CCTA is not that the ILEC
  would set prices too high but that it would
  engage in targeted pricing, i.e., cutting price
  selectively to its competitors customers
• 25 Just Right

16
Local Forbearance

• For SaskTel the effective market share loss
• In Regina-Moose Mountain local forbearance region
  36 of consumer lines and 31 of business
  lines in the Regina exchange
• In Saskatoon-Biggar local forbearance region
  32 of consumer lines and 30 of business lines
  in the Saskatoon exchange
• In Swift-Current-Moose Jaw 67 of consumer
  lines and 70 of business lines in the Moose Jaw
  exchange
• In Yorkton-Melville 119 of consumer lines
  (therefore unachievable) and 85 of business
  lines in the Yorkton exchange
• In the Northern and Prince Albert local
  forbearance region 140 of consumer lines and
  106 of business lines in the Prince Albert
  exchange (therefore unachievable).

17
Local Forbearance

• With respect to Quality of Service Standards
• Aliant met all of its Q of S requirements in 100
  of the cases in Halifax, but not in Prince Edward
  Island. Local forbearance would still not be
  permitted in Halifax
• Aliant had not met the quality of service
  standards for Rogers Communications in New
  Brunswick. Local forbearance in Halifax would
  still not be permitted despite the vigorous
  competition by EastLink in Halifax and the fact
  that Rogers does not even compete in the Halifax
  market and
• Aliant had not met the quality of service
  standards for a competitor in the business market
  in Moncton. Local forbearance would nonetheless
  not be granted for residential services (found by
  the CRTC to be a separate product market),
  despite the fact that the competitor did not even
  compete in the residential market in Aliant
  territory

18
Local Forbearance

• In theory, rivalrous behaviour criterion is
  appropriate
• In practice, however, as discussed below, the
  traditional telephone companies are prevented by
  CRTC regulation from engaging in many types of
  rivalrous behaviour that are the essence of
  competitive markets
• ILECs would be required to offer stand-alone
  voice service under a ceiling price
• CRTC retained the winback rule out of concern
  that ILEC immediate response would stifle
  entrants, but it allowed ILECs to go after lost
  customers after three months instead of twelve
  and would remove the rule for ILECs who had lost
  twenty percent market share

19
Local Forbearance

• CRTC was also engaged in an assessment of whether
  to forbear from regulating ILEC-provided
  telephone service over digital Internet networks
  VoIP
• VoIP and standard voice telephone service are in
  the same market thus, the ILEC is dominant in
  VoIP and should remain regulated
• May 2006, the Governor in Council issued an order
  to refer this VoIP decision back to the CRTC for
  reconsideration
• Market forces should play an increasing role in
  Canadian telecommunications

20
Local Forbearance

• Commission reaffirmed its finding that it would
  not be appropriate to forbear from regulating
  local VoIP services without an examination of the
  entire relevant market for local exchange
  services
• Local exchange competition in the residential
  market is more deeply rooted than it had appeared
  to be based on the record of the proceeding that
  led to Decision 2006-15
• Appropriate to reassess whether or not the market
  share forbearance criterion threshold of 25
  percent with respect to residential services
  continues to strike the appropriate balance

21
Local Forbearance

• Telecommunications Policy Review Panel (TPRP)
  spent roughly a year studying Canadian
  telecommunications, including an extensive
  process soliciting comments from largely the same
  participants in the CRTC proceedings
• March 2006, the TPRP issued a nearly 400-page
  report with 127 detailed recommendations
• Recommendations expressed a conviction that
  competition should be used instead of regulation
  to the maximum extent feasible.
• Presumption in favour of markets with regulation
  requiring a finding of market power

22
Local Forbearance

• Shortly following the release of the TPRP Final
  Report, the Honorable Maxime Bernier, then
  Minister of Industry, tabled a proposed policy
  direction to direct the CRTC to rely on market
  forces to the maximum extent feasible within the
  scope of the current Telecommunications Act.
  This policy direction calls on the CRTC to
  regulate telecommunications services only when
  necessary.
• The Policy Direction came into force on December
  2006

23
Local Forbearance

• In its simplest form, the Policy Direction
  establishes that
• the regulator must rely on market forces to the
  maximum extent feasible
• when regulation is necessary, the least intrusive
  means must be used
• regulation must be efficient and proportionate
  and
• regulation must neither deter economically
  efficient entry nor promote economically
  inefficient entry

24
Local Forbearance

• In December 2006, Industry Minister Bernier found
  that the CRTCs forbearance criteria were too
  strict and would prevent the telecommunications
  sector from realizing the full benefits of market
  forces
• Proposed replacing the CRTCs share tests with a
  simple one ILECs would have full pricing
  flexibility in regions where subscribers have
  access to a telephone company, cable broadband
  provider, and wireless service unaffiliated with
  the first two
• Proposed lifting all winback rules

25
Local Forbearance

• After the requisite 120-day period for
  consultation and public comment, the proposed
  variance was adopted by the Governor in Council
  in April 2007
• As of 30 June 2008, the Commission forbore from
  regulating local exchanges representing 73 of
  all residential lines and 65 of all business
  lines in Canada

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Economic Issues

• Rate of Return Regulation CW Chapter 26
• Price Cap Regulation CW Chapter 26
• Price Discrimination CW Chapter 5
• Market Definition CW Chapter 19
• Cournot vs Bertrand Competition CW Chapter 8
• Product Differentiation CW Chapter 11
• Predatory Pricing CW Chapter 21

27
Spectrum Auction
28
Spectrum Auction

• Several measures used to license spectrum,
  including auctions where demand exceeds supply
• The benefit of auctions is that it is designed to
  award spectrum to those who value it most and who
  will put it to most efficient use
• November 2007 Industry Canada issued a Policy
  Framework for AWS Spectrum Auction stating that
  while the industry is currently competitive the
  loss of even one national or regional
  facilities-based carrier (wireless or wireline)
  could lead to re-regulation of local telephone
  service
• Concerned that the incumbents would buy all of
  the available spectrum

29
Spectrum Auction

• Policy Framework implements measures to reduce
  barriers to entry for new wireless entrants
• Set-aside of spectrum in upcoming AWS auction
• Mandatory roaming
• Mandatory tower sharing
• Auction was a standard simultaneous round
  ascending price auction, except now some of the
  spectrum was set aside such that incumbent
  wireless operators were not allowed to bid on
  that spectrum

30
Spectrum Auction

• 90 MHz of Spectrum 45 MHz Uplink paired with 45
  MHz Downlink
• 40 MHz Set-Aside for New Entrants Blocks B, C,
  D
• Blocks B C Tier 2 8 Provincial and 6
  Regional
• Blocks A, D, E F Tier 3 59 Regional

31
Spectrum Auction

• 331 Rounds generating 4.25B in bids

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Spectrum Auction