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Unbundling the incumbent: Evidence from UK broadband M. Nardotto (ParisTech), T. Valletti (Imperial and ParisTech) and F. Verboven (KU Leuven)

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Presentation on theme: "Unbundling the incumbent: Evidence from UK broadband M. Nardotto (ParisTech), T. Valletti (Imperial and ParisTech) and F. Verboven (KU Leuven)"— Presentation transcript:

1 Unbundling the incumbent: Evidence from UK broadband M. Nardotto (ParisTech), T. Valletti (Imperial and ParisTech) and F. Verboven (KU Leuven)

2 Introduction Policies aimed at opening the incumbent have been often applied: – Electricity market – Transportation – OUR CASE: Telecommunications (all over EU, and elsewhere – not US though) Motivation: higher competition downstream should lead to lower prices, higher quality and more demand Few empirical studies answering the question: DOES IT WORK?

3 This paper We study the broadband market in UK, where: BT owns the network (Local Exchanges) Two possible entry strategies (downstream): – Bitstream: low investment, BT still provides most of the service (reduced area of responsibility of entrant) – Local-Loop Unbundling (LLU): bigger investment by entrants. Another competitor is cable (NTL:Telewest, now Virgin) with a competing closed network

4 This paper – findings MAIN QUESTION: Did entry through LLU induce market expansion? RESULT: penetration is not improved by LLU Then, we show: 1. Incentives for LLU change the composition of entrants technological portfolio 2. Inter-Platform competition leads to more penetration (BT lines v.s. cable)

5 Related literature Theory papers (surveys of Armstrong, Laffont and Tirole) Very rich policy (and advocacy) debate. Very few empirical works, almost no micro-data. Grajek and Roller (2011, JLawEc): Regulation negatively affects total investments in facilities. Panel of EU countries, aggregate data. Sraer (2008): WP on LLU and penetration (French data), Fevrier, Gaubert and Sraer (2011): structural model (cross-section) Minamihashi (2011): effect of regulation of both LLU and fiber in Japan. Regulation made more difficult to invest in fibre. Studies on entry in US using earlier data: Greenstein and Mazzeo (2006, JIndEc), Economides, Seim and Viard (2008, RAND), Xiao and Orazem (2011, IJIO), Goldfarb and Xiao (forthcoming, AER)

6 Broadband market Broadband in UK is provided by: – Fixed line telephone operators – Cable operator British Telecom group (BT retail/BT wholesale/ Openreach) is the incumbent of the fixed line telephone network Virgin Media is the only cable operator (network built in the 80s) BTs network has a (fiber) backbone and serve consumers locally through delivery points (local exchanges, LEs) which cover the last mile

7 Broadband market Each household is connected to a specific LE in the grid

8 Broadband market Late 90s: BT opened the last mile to entrants Regulation by Ofcom: 1.BT had to upgrade the network to allow for entry (completed in ) 2.Regulated wholesale prices that entrants have to pay to BT Entry options: – (Simple re-selling) – Bitstream: low investment by the entrant in the LE, the connection is still managed by BT – LLU: higher investment by the entrant. Entrants install DSLAM equipment, routers, cabinets, provide maintainance, etc

9 Local Exchanges (LEs) Called Central Offices in the US 5,587 LEs in the UK grid Becoming LLU supplier costs approx £100k per LE (one- off), plus ongoing costs

10 Regulation and goals Regulators perspective (Ofcom WBA rev. 2006): The importance of broadband continues to grow. It plays a central role in communications used by many consumers and businesses to keep in touch, access information and conduct business.Competition has an important role to play in delivering what consumers and businesses needCompetition at the retail level depends on ISPs having access to wholesale broadband services or local loop unbundling (LLU) to build their services. Ofcom has identified that competition between networks based on LLU, rather than just at the retail level based on wholesale broadband products, is crucial to maintaining the UK's broadband progress.

11 Data Quarterly panel data on investments and subscriptions in the period 2005 (Dec) – 2010 (Jan) at the LE level (5,587). In each LE we observe: – Postcode and geographical coordinates – Total number of potential lines (households) – Number of lines potentially served by cable – Lines actually served by cable – Lines served by entrants through LLU (disaggregated by operator) – Total lines served by bit-stream – Total lines with broadband (LLU + cable + bit-stream)

12 Penetration over time Penetration increases significantly over our time span

13 Relative shares of the technologies Over time the relative share of BT retail is stable Entrants substitute bit- stream with LLU

14 LLU expansion In few years the adoption of LLU becomes more widespread:

15 Whole BT grid of LEs + cable

16 LLU and Entry - 1 The 677 LEs where we observe LLU are different: VariableObsMeanStd. Dev. Wilcoxon – Pr Test (p-value) Period Size < Size Urban < Urban

17 LLU and Entry – 2 And the difference is still there in period 17 (entry tripled to 1,985 LEs) VariableObsMeanStd. Dev. Wilcoxon – Pr Test (p-value) Period Size < Size Urban < Urban

18 LLU and Entry - 3 Entrants make LLU investment where the market is profitable, i.e. – It is larger in size – Income is higher – Maintainance can be done more efficiently Hence, it is crucial for identification, to control for unobserved heterogeneity in the local LE markets

19 LLU and Entry - 4 We estimate the following model: Where the regressors are: – Size of the LE (number of lines) – Dummy variable for urban areas

20 LLU and Entry - 5 Probit regression Number of obs = 5517 LR chi2(2) = Prob > chi2 = Log likelihood = Pseudo R2 = LLU cov. | dy/dx Std. Err. z P>|z| [ 95% C.I. ] X Size | Urban | The average size in the sample is 5,000 lines. At this size very few are activated. The difference in the activation prob. between a 5,000 lines LE and a 15,000 lines LE is 11% The difference in the activation prob. between a LE in a urban area and LE in a non urban area is 7.6%

21 Does LLU increase penetration? We estimate a panel regression for the penetration: We use the F.E. estimator Two LLU entrants particularly important in the data, Sky (TV) and CPW (who in the period bought AOL, Tiscali, Talk Talk) Account also for some spatial (neighbourhood) effect Additional regressor is the time since LLU is activated

22 Panel FE estimation

23 LLU vs. Bit-Stream Do firm change their technology?

24 LLU vs. Bit-Stream

25 Possible explanations Firms may not engage in price competition. How to test it? Bresnahan – Reiss approach: look at the market size needed to sustain an extra-entrant: – If there is competition then ETR should be greater than 1 and increasing

26 Possible explanations Estimated thesholds:

27 Possible explanations Lack of competition Product differentiation? Heterogenous entrants? Ladder of investment does not seem to work Locus of competition is not price, rather quality

28 Next steps/Ongoing work We are collecting demographics at the LE level (complicated but feasible) Penetration may not be the only objective, in particular we are collecting data on: – Speed of the connection – Reliability of the service We are also looking at the entry strategies (product differentiation) Also, recomputing entry plus exit threshold ratios with simple entry dynamic model

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