Welfare Analysis of Regulating Mobile Termination Rates in the UK (with an Application to the Orange/T-Mobile Merger)

David Harbord, Steffen Hoernig
2010 Social Science Research Network  
This paper presents results from a calibrated welfare model of the UK mobile telephony market which includes many mobile networks; calls to and from the fixed network; networkbased price discrimination; and call externalities. The analysis focuses on the short-run effects of adopting lower mobile termination rates (MTRs) on total welfare, consumer surplus and profits. Our simulations show that reducing MTRs broadly in line with the recent European Commission Recommendation to either "long-run
more » ... cremental cost"; reciprocal termination charges with fixed networks; or "bill-and-keep" (i.e. zero termination rates), increases social welfare, consumer surplus and networks' profits. Depending on the strength of call externalities, social welfare may increase by as much as £360 million to £2.5 billion per year. The analysis thus lends support to a move away from fully-allocated cost pricing and towards much lower MTRs, with bill-and-keep frequently leading to the highest increase in welfare when call externalities matter. We also apply the model to estimate the welfare effects of the recently-approved merger between Orange and T-Mobile under two different scenarios concerning MTRs. This article is partly based on research undertaken for Hutchison 3G UK Ltd. The authors are solely responsible for its contents and for the views expressed, however. We are greatly indebted to Adam Mantzos for considerable help in calibrating the current and earlier versions of the model used here. for the standard theory. The characterization of mobile call termination as a monopoly or "bottleneck" service assumes that mobile operators can make take-it-or-leave-it offers to fixed-line operators and to each other, which is typically justified by reference to various interconnectivity obligations. Binmore and Harbord (2005) question this assumption, and provide an analysis of mobile call termination instead as a bilateral-monopoly bargaining problem. See also Armstrong and Wright (2007, Section 3.5). 2 Ofcom regulates the termination charges of the five UK mobile operators at "long-run incremental cost plus" ("LRIC +"). It treats fixed-to-mobile (FTM) and mobile-to-mobile (MTM) termination charges symmetrically, and uses a detailed cost model to estimate "LRIC +" by allocating the fixed and common costs of a hypothetical efficient network operator over mobile retail and wholesale services. See Harbord and Pagnozzi (2010) .
doi:10.2139/ssrn.1564083 fatcat:gqcxzog5cffbzf57xhb2vhjn5e