International Settlements: Rate Alternatives

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1 Agenda International Settlements: Rate Alternatives Network Economics & Finance Copyright 1997, 1998, 2001, 2003, 2005, & CITI, Columbia University ITP, University of Colorado All Rights Reserved. Overview Alternative Procedures Modelling Approach Summary & Conclusions An extension of, "International Settlements: An Analysis of Rates," Communications & Strategies, Special Edition, IDATE, 2nd. Quarter, 1998, Montpellier, France and " International Settlements: A Time for a Change" & Barbara Sorce Proceedings of the Global Network 97 Conference Calgary, June 1997 Overview Accounting/Settlement Rates Mechanics of Settlements Recent Activities International Telecommunication Union United States Government Accounting/Settlement Rates Settlement Rate Bilateral negotiation One-half of accounting rate Mechanics of Settlements US $, SDRs, or Gold Francs Based on traffic differences Telephone Revenues (millions) $18, % $93, % 40.1% $74,766 International Domestic Toll Source: FCC 1-6

2 International Revenue Telephone Revenues Non-facsimile facsimile, low estimate facsimile, high estimate addition $7,000 (millions) $200 International Toll Domestic 10.0% $ % $35,000 (billions) $100 $28, % $50 Source: FCC International Revenues, USA International Revenues, USA (billions) $20 $15 $10 $5 Source: FCC International Trends Report, August 22,1996 & (billions) $5 $4 $3 $2 misc. resale PL Misc. Resale of Telephone Net Settlements, Telephone Net Revenue, PL Net Revenue, Telephone $ International Resale Revenues, USA International Settlements, USA (billions) Source: FCC International Trends Report, August 22,1996 & $2,000 $1,500 $1,000 $500 Net Settlements Billions $7 $6 $5 $4 $3 $2 $1 Source: FCC (4/99) Misc. Resale of Telephone year 7-12

3 Accounting Rates International Prices $1.50 Source: FCC (4/99) International Prices, 1985 $3.00 Accounting Rates $ $2.50 $2.00 $1.50 $1.00 Prices to USA Price from USA Australia Austria Belgium Canada Denmark Finland France Germany Greece Iceland Ireland Italy Japan Luxembourg Netherlands New Zealand Norway Portugal Spain Sweden Switzerland Turkey U.K. Source: OEDC International Telecommunications Pricing Practices and Principles: A Progress Report, 1995 International Prices International Prices International Prices, Percentage Difference, 1985 International Prices, Percentage Difference, % 60% 60% 40% 40% 20% 20% 0% 0% -20% -40% -20% -60% -40% -60% Australia Belgium Finland Germany Ireland Japan Netherlands Portugal Sweden U.K. Austria Denmark France Greece Italy Luxembourg Norway Spain Switzerland Source: OEDC International Telecommunications Pricing Practices and Principles: A Progress Report, % Australia Austria Belgium Denmark Finland France Germany Greece Iceland Ireland Italy Japan Luxembourg Netherlands New Zealand Norway Portugal Spain Sweden Switzerland Turkey U.K. Source: OEDC International Telecommunications Pricing Practices and Principles: A Progress Report, 1995 International Price Price Differences & Settlements 60% 40% 20% 0% -20% -40% International Prices, Percentage Difference, 1991 Sources: OEDC International Telecommunications Pricing Practices and Principles: A Progress Report, 1995 & FCC International Trends Report, August 22, Price Differences & International Settlements -60% (0.10) Australia Austria Belgium Denmark Finland France Germany Greece Iceland Ireland Italy Japan Luxembourg Netherlands New Zealand Norway Portugal Spain Sweden Switzerland U.K. Source: OEDC International Telecommunications Pricing Practices and Principles: A Progress Report, 1995 Settlements, 1988 Price Difference, 1988 (0.20) Canada France Germany Greece Italy Japan Netherlands Spain Switzerland U.K

4 Price Differences & Settlements Price & Traffic Differences Sources: OEDC International Telecommunications Pricing Practices and Principles: A Progress Report, 1995 & FCC International Trends Report, August 22, Price Differences & International Settlements 80.0% 60.0% 40.0% % difference price % difference traffic (negative) (0.10) 20.0% 0.0% (0.20) (0.30) Settlements, 1991 Price Difference, % -40.0% Canada France Germany Greece Italy Japan Netherlands Spain Switzerland U.K. Austria France Italy Japan Spain U.K. Price & Traffic Differences Alternative Procedures 80% 60% 61% 54% 40% 33% 20% 21% 17% 0% -20% -40% -34% 0% 10% 20% 30% 40% 50% 60% Interconnection Fees Sender-keeps-all Resale and Callback Negotiated/Flexibility Cost-based/ing R-square = # pts = 6 y = (lnx) Observation Accounting Rates are Intermediate/Interconnect Prices Survey of the Literature Demand Analysis Asymmetry of Prices Policy Recommendations 19-24

5 Demand Analysis & Asymmetry : Policy Taylor, Lester, Telecommunications Demand Larsen, A. C. and Dale Lehman, Symmetrical Pricing and Arbitrage" Larsen, A. C., Dale E. Lehman, and Dennis L. Weisman, "A General Theory of Point-to-Point Long Distance Demand" Johnson, L. L., Competition, Pricing, and Regulatory Policy in the International Telephone Industry Alleman, J. H., P.N. Rappoport, and K. B. Stanley, "Alternative Settlement procedures in International Telecommunications Service" Ergas, Henry. and P. Paterson, "International Telecommunications Settlements Agreements" Frieden, Robert., "International Toll Revenue: Tracking the Inequities and Inefficiency" : Duopoly Hakim, S. R. a. and D. Lu, "Monopolistic Settlement Agreements in International Telecommunications Agreements" Yun, Kyoung-Lim, Hyun-Woo Choi and Byong-Hun Ahn, "The Accounting Revenue Division in International Telecommunications: Conflicts and Inefficiencies" Monopoly/ Callback Cheong, K. A.. and M. Mullins, "International Telecommunications Service Imbalances" (continued) : First-best Cost-based prices Fifty-fifty split Sender-keeps-all (Bill-and-keep) q 0 : q i : c1q1 c0q c2q2 joint service (two-way) traffic international service (one-way) traffic Q = q 1 + q 2 c 0, c 1, c 2 : average incremental costs and product specific (constant) marginal cost 25-30

6 : Prices: a i : settlement p i : international (collection rate), country i, i = 1,2 First-best prices are marginal costs: p 1 = c 0 + c 1 + c 2 p 2 = c 0 + c 1 + c 2 : Cost-based Rates Efficient ing Improvement Inefficient Divergence international rates Fifty-fifty accounting rates "Sender-keep-all" (Bill-and-keep) Implies: a 1 = c 0 + c 2, a 2 = c 0 + c 1, & p 1 = p 2 : First-best Cost-based prices improvement Fifty-fifty inappropriate Sender-keeps-all inappropriate Bill-and-keep inappropriate : : max π = D (q) q - C(q) thus dπ/dq = [dd(q)/dq]q + D(q) - dc(q)/dq = 0 P > MC Price greater than Marginal Cost Factor or D(q) [1 + 1/η] = dc(q)/dq elasticity 31-36

7 Monopoly/ : Monopoly/ Maximize: π = D m (q c, q m ) q m + [D c (q c, q m ) - c c - c o ](q c - q m ) - C(Q) : Monopoly/ Specify demand as: D m(q c, q m) = α β q m γ q c : Monopoly/ Substituting: Maximize: D c(q c, q m) = α γ q m βq c π = (α β q m γ q c ) q m α, β, γ, > 0 and β 2 > γ 2 + [(α γ q m βq c ) - c c - c o ](q c - q m ) - c m q m - c m q c - c m q c - c 0 q c : Monopoly/ Solving for first order conditions, rearranging and collecting terms: 2(γ - β )q m + (β - 2γ )q c = c m - c c : Monopoly/ Solving using Cramer's rule: Let: = 3β 2-4γ 2 then (β - 2γ )q m - 2β q c = c c - α q m = [- 2β c m + (β + 2γ )c c + a(β - 2 γ ) ]/ when c o = 0 q c = [(2γ - β )c m - β c c + 2a(β - γ )]/ 37-42

8 : Monopoly/ The ratio of γ 2 /β 2 measures the degree of arbitraging the prices. We would expect to see γ 2 β 2 over time. Initially γ 2 would be closer to zero since as γ 0, the differentiation of the services is high and when γ 2 β 2 the services become more substitutable namely, this ratio would measure the ease of arbitrage. [Shy, 1995, pp ] Monopoly/ Callback : Callback : Callback p m = retail price or collection rate a m = the settlement rate price $2.00 If p m - a m < a m or p m < 2a m monopoly gains from callback settlement net revenue ($1.06).94 : Callback : Callback No Callback Callback price $2.00 price settlement $2.00 ($1.06) $1.06 settlement ($1.06) $1.06 net revenue.94 $1.06 net revenue.94 $

9 : Callback, Monopoly No Incentive to Reduce Accounting Rate Settlement Improved Demand Stimulated Consumers/Producer Gain Trade Balance Deteriorates : Callback, Neutral on Accounting Rate Settlement Exacerbated Demand Stimulated Consumers Gain (via trade effects) Monopoly/ Callback Policy Recommendations/Summary Cost-based Prices Confirmed s - Improvement Far from marginal costs Could be tighten Policy Recommendations/Summary Cost-based Prices Confirmed - Improvement Callback Ineffective (in some cases) Inappropriate Sender-keep-all (Bill-and-keep) Fifty-fifty split Value-based pricing Future Research Refine Estimation of demand functions Inclusion of callback/benchmark Ramsey pricing of settlements Estimation Callback effects Benefits of cost-based settlements Developing country losses 49-54

Chapter 8. Firms in the Global Economy

Chapter 8. Firms in the Global Economy Chapter 8 Firms in the Global Economy Summary 1. Introduction International trade is an important economic activity 2. General equilibrium model There are welfare gains from trade whenever relative prices