A consultative document issued by the Director General of Telecommunications setting out proposals for future retail price and network charge controls

October 2000

Contents

Summary

Chapter 1 Introduction

Chapter 2 Retail prices

Chapter 3 Network Charge Controls

Chapter 4 General issues in price cap regulation

Chapter 5 Consultation details

Annex A Responses to consultation

Annex B Financial modelling

Annex C Cost of Capital

Annex D FRIACO

Annex E Cost-Based Access

Annex F Glossary

Annex G Index of Questions

Summary

S1 In March 2000, Oftel published Price Control Review: A consultative document issued by the Director General of Telecommunications on possible approaches for retail price and network charge controls setting out options for the future of retail price and Network Charge Controls placed on BT. The current controls are due to expire in 2001. This document sets out Oftel’s proposals on the future of both types of controls in the light of responses and additional information.

Retail Price Controls

S2 The current retail price control, which expires at the end of July 2001, restricts annual increases in the average price of a group or ‘basket’ of services to the rate of inflation (RPI) minus 4.5%. The services controlled are connections, line rentals, local, national and international calls. Oftel calculates the relative weight of each service within the basket by looking at the expenditure patterns of the lowest 80% of residential customers by spend. This means that the control focuses price changes on services used largely by lower spending customers.

S3 In the March consultative document, Oftel observed that prices for basic telephony services had fallen through the period of the price control, partly through the operation of the price cap and partly through the effects of competition for higher spending customers. BT’s returns on calls, assessed on the basis of BT’s cost allocation, remain substantially above a reasonable level. These returns are significantly offset by the failure to recover the full costs of access through line rental. Nevertheless, the overall level of profitability exceeds what BT requires to cover its full costs and make a reasonable return. However it is worth noting that the overall rate of return has declined over the last two years with a significant fall in the last year.

S4 Oftel suggested that future retail price controls could take one of three forms, depending on developments in competition and pressure on prices between the publication of the March document and the end of the current retail price control. The approaches put forward by Oftel were:

Approach 1: Continuation of the current structure of retail price control, focussing on lower spending residential customers; or

Approach 2: Broadening of the retail price controls to include expenditure by all residential and business customers; or

Approach 3: Measures to strengthen competitive pressures by allowing cost based access to BT’s network to a wider range of service providers.

S5 The third Approach had a number of variants, designed to ensure that lower spending customers would be protected from any bill increases that might result from prices being driven closer to cost.

S6 Oftel recognised that the market is beginning to change quite significantly with increasing competition from both direct and indirect access operators and, in addition, an increasing number of consumers using mobile phones as a substitute for fixed telephony. Reduction in BT’s market shares in the main call markets reflect this increasing competition, though in the residential market its shares remain around the 60-70% level. There is every prospect that competition to BT will increase over the coming years. Full carrier pre-selection, where BT customers can elect to have calls delivered by other operators’ networks without needing to dial an access code, will become fully available during 2001. BT is rolling out higher bandwidth technology and its local loop will be made available to other suppliers from the beginning of 2001 to offer competing services. Cable operators will continue to expand and calls and access resellers are also expected to provide some competitive stimulus.

S7 BT has argued that, in view of the current and prospective developments in competition, all formal retail price controls should be removed and that in future competitive market forces should be sufficient to protect consumers. BT has offered a voluntary price guarantee to ensure that, in real terms, telephone bills do not increase. Other telephone companies with their own infrastructure have supported the ending of the price control. Oftel however does not accept that there is sufficient evidence that competition alone will protect consumers, particularly those on low incomes or who are low users of the telephone.

S8 However Oftel, whilst recognising the current developments in competition and the likelihood of increased competition in the future, remains less sure about the impact of these competitive pressures both in terms of their level and timing. Oftel has considered further evidence currently available on the development of competitive pressures. Competition to BT has been growing across all markets though at a relatively slow place. On the other hand, although profits overall are high they have been declining which may suggest that competition, especially on calls, is biting more than market share changes indicate.

S9 In view of the considerable uncertainty surrounding the impact of competition on BT in the immediate future, Oftel is therefore proposing that the current retail price controls should be extended until July 2002. This will enable Oftel to review the impact on the market of continuing infrastructure competition, carrier pre-selection, indirect access, local loop unbundling and mobile substitution. If additional competition does not emerge to constrain BT’s call prices by late 2001, Oftel will consider whether further price controls or other measures to stimulate competition, such as the introduction of a cost-based access product to the BT network by a wide range of service providers (Approach 3), is needed. Since the resellers providing services under ‘Approach 3’ are likely to target more profitable customers, the introduction of a cost based access product may need to be accompanied by additional measures providing protection for low spending customers. If competition is sufficiently strong to have significantly reduced profitability with clear evidence of this strengthening further, Oftel will need to consider whether, and if so what, remaining controls will be needed. Oftel also believes that a further ‘rollover’ provision is needed. This provision would allow for existing controls to be extended from August 2002 to July 2003. It would be invoked if there were a reference to the Competition Commission following any proposals Oftel put forward as a result of its study of the retail market in 2001.

Network Charge Controls

S10 In the March consultative document, Oftel proposed to continue with interconnection charge controls based on the level of competitiveness in each interconnection market. Oftel believes that this is the appropriate form of regulation for interconnection services. Oftel will publish the exact value of X for the RPI-X formula applied to baskets of BT’s non-competitive interconnection services in January 2001. The value of X is likely to lie in the range 7.5%-11.5%, but Oftel will be conducting additional research to inform its final decisions.

S11 Oftel does not intend that there should be a one off adjustment to interconnection charges at the beginning of the new charge control period. Oftel believes that the incentive properties of price and charge control regimes are important advantages of these types of controls over profit controls. One off adjustments undermine these incentive properties.

S12 One issue that has become increasingly prominent since the publication of the March document is that of traffic migration. Much of the current data traffic which is being conveyed over the basic telephony network, and which forms much of the expected growth in overall traffic in the future, will be migrated off this network onto Internet Protocol (IP) based networks in the future. Such migration will clearly be a very important factor in determining the volume increases on the basic telephony network, which is fundamental to setting charge controls. This uncertainty therefore makes it difficult to produce accurate financial forecasting. Oftel proposes two possible approaches to deal with this problem.

S13 The first approach is to conduct the financial modelling in the conventional way, with volume forecasts including an allowance for traffic migration off the basic telephony network. However, since the forecasts would be subject to significant risk of error, it is proposed under this approach to have a mid-term review after two years. The charge control would be set in the normal way, with the calculation based on the assumption that it would have a four year period of operation, but the mid-term review would allow adjustment to be made so that any substantial divergence between actual and forecast volumes would not generate excessive or insufficient profitability for BT.

S14 The other approach is to include all traffic in the volume forecasts for the Network Charge Control financial modelling. The resulting charge control would apply to all traffic on BT’s networks, irrespective of whether the traffic uses the basic telephony network or IP technology. This would make the forecasts less dependent upon assumptions made about traffic migration and BT would have the right incentive to migrate traffic onto IP networks if this reduced the overall level of its costs.

Chapter 1 Introduction

Oftel’s Regulatory Approach

1.1 Oftel’s goal is the best deal for consumers in terms of quality, choice and value for money. Competitive markets are the best way of achieving this goal.

1.2 Oftel believes that regulation should be imposed only where it is justified. It believes that regulation should be appropriate to the level of competition in the market and that excessive regulation can reduce incentives to invest and innovate. However, Oftel recognises that a failure to regulate where it is needed can harm consumers’ interests.

The Retail Price Control

1.3 Price control is a means of protecting consumers in retail markets where competition is ineffective now and is likely to continue to be ineffective in the immediate future. Since 1984, price control has taken the form of placing a ceiling – or a cap – on the extent to which BT can raise its prices.

1.4 The current retail price control was set in 1996 and covers access – connection to the network and line rental – and the prices of local, national and international calls and of Operator Assistance. Calls to non-geographic services, such as calls to Internet services, are not included. The price control is expressed as ‘RPI-X’ which means that the maximum increase in the weighted average of the prices of the services controlled is limited to X% less than the annual rate of inflation each year. The value of X in the current RPI-X formula is set at 4.5%, so if inflation is 2% BT’s prices (for price-controlled services) must fall by 2.5% on average.

1.5 The control applies to the lowest-spending 80% of residential customers. In addition, small businesses are protected by a requirement on BT to offer a business package with call prices no higher than the reference residential tariff (the reference tariff is the one used to monitor compliance with the price cap) and line rental increases of no more than the annual rate of inflation.

1.6 In 1996, this structure was considered to be the best way of ensuring that price-cap protection was provided to those who needed it most, whilst giving BT greater freedom in areas where competition was becoming more effective. At that stage higher spending residential and business customers were expected to benefit from competition in particular from IA operators through lower call prices and were therefore removed from the scope of the control. For most lower-spending customers, the relatively low proportion of their bills accounted for by calls meant that they were likely to purchase calls as part of a package from their access provider. As access markets were not yet effectively competitive, lower-spending residential customers continued to need protection by retail price controls.

The Network Charge Controls

1.7 Interconnection charges are the charges BT makes to other operators to connect to and convey calls over its network. The charges for some of BT’s interconnection services are subject to controls that operate in much the same way as the retail controls. Network Charge Controls will continue to apply to services for which effective competition is unlikely in the period following the ending of the current charge control period.

1.8 Under the current Network Charge Control regime, interconnection services are split into four categories of competitiveness:

• Competitive services;
• New services;
• Prospectively competitive services; and
• Non-competitive services.

1.9 Controls are not applied to interconnection services determined to be competitive. In order to ensure that incentives to innovate remain, new services are not immediately subject to charge controls. However, Oftel retains the power to introduce controls. Prospectively competitive services are subject to a ‘safeguard’ cap of RPI+0%. The expectation being that competition would be the binding constraint on the charges for these services. Competitive pressure should force BT to reduce the charges for these services towards the costs faced by new network operators, and that is forward looking incremental costs. Non-competitive services are divided into three ‘baskets’ or groups of services, with each basket subject to a cap of RPI-8%.

1.10 As part of the current review, Oftel has considered how competition for each of these interconnection services has changed and how it is likely to evolve.

Consultation

1.11 This document is the next stage in a process begun in July 1999 (Oftel document Future developments in the competitiveness of UK telecommunications markets) with an assessment of the extent of competition that BT is likely to face over the next price control period. Oftel has assessed views on developments in competition and their implications for the need for future price controls. Oftel has set out its conclusions on the competitiveness of markets. A summary of responses to the March consultation is set out in Annex A.

1.12 The main findings of the competition analysis were that:

• BT’s share of calls markets, and its call prices, had not fallen as fast as expected in 1996. This suggested that competition had been weaker than expected;
• within the controls on lower spending customers, smaller than expected reductions in calls prices had on average been offset by smaller than expected increases in the line rental. Higher spending residential customers and business users had however faced higher than expected bills as a result;
• in the future, the extent to which mobiles substitute for fixed calls and perhaps lines would increase but was by itself unlikely to be an adequate constraint on BT’s prices;
• the impact of new technologies and services on competition for basic services was difficult to predict and it was not clear whether it would provide sufficient restraint on BT’s basic telephony prices; and
• efforts to reduce barriers for customers changing operators by making comparative price and quality of service information available would benefit competition but would not on their own be an adequate replacement for price controls.

1.13 Oftel therefore concluded that many customers have had limited choice of access provider and limited effective competition for calls. Although competition is developing, its extent and precise impact in future remained uncertain. This suggested that some measures to restrain BT’s retail prices would be required after 2001.

Geographic averaging

1.14 BT’s prices for basic services are currently required to be averaged geographically. This means that such services are priced the same throughout the UK even when there are regional differences in the cost of provision. Geographic averaging has delivered the benefits of competitive price levels nationally, rather than just in geographic areas where competition is strongest. Also, geographic averaging has ensured that telephony is affordable in areas where the high costs of provision would otherwise disadvantage certain groups of customers. Oftel is of the opinion that the current requirements for geographic averaging of BT’s prices should remain.

Timing of the Review

1.15 This document sets out the latest information on market shares and BT’s rates of return. Following this consultation, a statement containing Oftel’s proposals for price and charge controls together with licence modifications for statutory consultation is expected to be published in January 2001.

Rollover

1.16 The current retail price controls on BT are scheduled to end in July 2001, and the current Network Charge Controls in September 2001. Should BT reject Oftel’s proposals for future controls, Oftel would refer the matter to the Competition Commission for investigation into the public interest of Oftel’s proposals. The Director General would then determine that the current controls should continue until March 2002. This should give the Competition Commission sufficient time to reach its conclusions, and for Oftel to implement them.

Chapter 2

Retail prices

2.1 In this chapter, Oftel examines the latest information on BT’s retail market share and profitability using data from BT’s 1999/2000 accounts. It updates the market analysis summarised in Chapter 1 with data that have recently become available and sets out Oftel’s proposals for the arrangements to be put in place when the current set of retail price controls end at the end of July 2001.

Access market

2.2 The main competition to BT in the provision of access lines, particularly for residential customers, comes from the cable operators. Cable networks now reach over half of UK homes. Cable networks serve around 4 million households, or about 30% of homes passed by their networks – equivalent to around 15% of all UK households. These figures have increased from 8% of UK households in January 1997 and 12% in January 1998.

2.3 BT continues to have high market shares in the residential and business fixed access market (83% and 89% respectively at the end of 1999/2000). This is set out in table 2.1.

Table 2.1 UK Telecoms Market: % share of lines

RegOp – Regional Operators source: Oftel market information

Calls market

2.4 Indirect access (IA) services are available to all households and businesses from around 150 suppliers. Customers of IA operators retain a BT exchange line but access their choice of IA operator via dialling a short access code or by dialling a freephone number. Certain customer premises equipment can be programmed to automatically dial the short access code. The volume of IA calls is increasing. According to BT data, around 8% of BT residential lines (June 2000) place some of their calls via an indirect access operator. The data show a broad mix of IA traffic (in volumes 30% local; 33% national; 7% International and 30% to non-geographic services and mobiles). BT estimates that the overall volume of traffic increased by 74% in the year to June 2000, at which point the volume of IA call minutes had reached 2 billion call minutes per month.

2.5 Tables 2.2 and 2.3 show that IA, combined with the impact of cable and regional operators, has resulted in a decline in BT call volumes and in BT revenues. BT retains a significant proportion of call volumes and revenues but these are declining – BT’s revenues in the residential sector have fallen by 20% for local calls and 25% for national calls between Q4 of 1998/9 and Q4 of 1999/2000.

Table 2.2 UK Telecoms % Market Shares by call volumes – Q2 1998/1999 & Q4 1999/00

RegOp – Regional Operators source: Oftel market information
IA – Indirect Access Providers

Table 2.3 BT % Market Share by Revenues 1998/99 & 1999/00

source: Oftel market information

2.6 Oftel has examined BT’s Returns on Capital Employed (ROCE) for the last three years and compared these with BT’s cost of capital. Broadly, ROCE is a measure of BT’s profitability, expressed as a proportion of its investment in the business. BT’s cost of capital is the minimum rate of return which investors require from an investment of similar risk, in order to be persuaded to put their money into the business. The difference between the actual ROCE (subject to some technical requirements about the way it is measured) and the cost of capital indicates the extent of excess profits, over and above those necessary to induce investment in the business. Competition between firms tends to force rates of return down towards the cost of capital. Returns persistently in excess of the cost of capital would not be expected in a competitive market. A comparison between BT’s ROCE over recent years and its cost of capital can provide some evidence of the extent of competition BT faces.

Table 2.4 BT’s Return on Capital Employed

Source: BT

Footnote

Outgoing and incoming traffic is included in the definition of International used above. International call products (e.g. operator assisted dialling, payphones and PCs) are excluded.

2.7 Oftel’s estimate of BT’s cost of capital is set out in Annex C. Oftel believes that BT’s cost of capital lies in a range with a central value of 12.5% (before tax and in nominal terms). Table 2.4 indicates that BT’s actual return on capital has fallen but remains above 20% in total with continuing very high returns on calls more than compensating for relatively low returns on access. The persistence of rates of return in excess of the cost of capital suggests that the calls markets are not effectively competitive.

Future developments

2.8 As result of market developments, and regulatory decisions already made, there will be increased competitive pressures on BT that will impact on its market share and rates of return in 2001 and beyond.

2.9 In the access market, cable companies are expected to concentrate on increasing penetration rates in areas already covered. Radio Fixed Access (RFA) operators have the potential to compete with BT in the access and calls markets. The exact nature of impact of RFA is unclear but RFA operators may well focus their businesses at least initially on urban areas and targeted at small and medium sized businesses.

2.10 There are now over 34 million mobile phones in use in the UK. Around 5% of homes now have a mobile phone instead of a fixed line. Prices are falling although the price gap with fixed lines remains large, especially for calls in peak hours. Third generation mobile phones will significantly increase the overall traffic capacity of the mobile networks and may lead to new tariff packages. However, large-scale substitution seems unlikely to occur while significant price differences remain.

2.11 The Internet and higher bandwidth services will have a significant impact on the telecommunications market as a whole. However, their impact on the level of competition, BT’s market share and rates of return in the market for basic services is not yet clear. The impact of Voice over Internet Protocol (VoIP) will depend to a large extent on the quality and reliability of such services and the penetration rate of Internet equipment in the home (currently in 28% of homes). BT is rolling out higher bandwidth technology and its local loop will be made available to other suppliers from the beginning of 2001 to offer competing services. Market roll-out of BT’s higher bandwidth services is currently expected to be limited by technical constraints to around 70% of the UK and will initially be aimed at high spend Internet users.

2.12 Indirect access has so far made a relatively limited impact, though its use has been growing more quickly recently. One reason why more customers do not use indirect access operators more may be the need to dial extra digits in order to make calls via such operators. The increasing use of indirect access equipment that selects alternative operators automatically and from April 2000 the potential availability of an interim form of Carrier Pre-Selection (CPS) means that dialling extra digits is no longer necessary. It is likely that these developments combined with the full version of CPS for national and international calls from January 2001 and all calls from the end of that year, will stimulate more aggressive marketing by indirect access operators and could potentially have a significant competitive impact. However, the extent to which CPS will overcome the barriers which IA providers have experienced – customer inertia and resistance to receiving two bills – is not yet clear.

2.13 Another potential source of competition is from service providers reselling BT’s exchange line and calls over the BT network. The reseller’s customer keeps the BT line but receives only one bill from the reseller. The competitive impact of resale depends to a large extent on the terms on which resellers gain access to BT’s network. BT’s ‘Calls and Access’ tariff is aimed at the resale market. Calls and Access resellers purchase services based on BT’s retail prices whereas operators with some network infrastructure (known under the Interconnection Directive as ‘Annex II’ operators) purchase network interconnection services at charges based on BT’s costs. Calls and Access resellers have argued that this difference in prices – essentially BT’s profit margin – has to date limited the extent to which they can compete with BT.

2.14 In summary, the market is expected to see significant developments in terms of new and existing competition increasing over the year. IA/CPS operators can be expected to make increasing inroads into BT’s market share. Higher bandwidth services, mobile substitution, further cable expansion and Calls and Access resellers are also to expected to provide competitive stimulus. However, in the absence of any data on the impact of LLU and CPS in particular, it is difficult at this time to assess with an acceptable level of accuracy whether, taken together, these developments provide sufficient pressure on BT to restrain prices in the absence of competition.

Conclusions on Market competitiveness

2.15 If effective competition had developed as predicted in 1996, BT’s overall returns would have fallen towards the cost of capital. Equally, if competition were having no effect, BT’s rates of return and market shares would have been expected to remain relatively stable.

2.16 Although competitive pressure is increasing, BT’s continuing high market share and rates of return suggest that it is not yet fully effective. It is clear that there have been significant reductions in BT’s market share in the business market and the overall rate of return has fallen compared to the previous year. However, returns remain well in excess of the cost of capital and market shares in the residential market remain high. Persistently excessive profits should not occur in competitive markets unless a particular firm is much more efficient or innovative than its rivals. It is not clear that either of these conditions for high profits apply in the case of BT’s position in the markets for basic services. The low rates of return on access show that part of the excess call profit should be regarded as a contribution to costs which are shared between calls and exchange lines. This suggests that the disappearance of all excess profits on calls would need to be offset by some increases in line rentals in order for overall cost recovery to take place.

2.17 The assessment of future developments suggests that competitive pressure on BT will continue to develop. The key policy question is whether it will be strong enough for BT’s call prices to be driven to the competitive level without further regulatory intervention in the period 2001-2005.

2.18 BT argues that competitive pressures are already having a significant effect on its business and that the introduction of CPS and the unbundling of the local loop will increase these pressures to such an extent that retail price controls will not be required beyond 2001. BT also argues that an industry fund should be set up under the Universal Service Obligation to enable BT to continue to fund uneconomic customers.

2.19 For the reasons set out above Oftel is not of the opinion that competition is fully effective at this time. Also, as set out in Oftel’s consultation on the Universal Service Obligation (USO) in September 2000, Oftel believes it would be premature to establish a fund now given that the USO does not represent an unfair burden on BT. However, Oftel recognises that CPS and LLU are likely to have some impact from January 2001, as will other market developments. But it is difficult to forecast how they will affect the competitive market and BT’s prices.

Oftel invites views on its conclusions that BT’s profitability in the calls market remains  higher than would be expected in a competitive market.

Implications for future Price Controls

2.20 In the March consultative document, Oftel identified three possible approaches for the replacement of the current retail price controls which expire in July 2001. These options differed in the balance they strike between direct control of BT’s prices, increasing competition at the retail level by opening up BT’s network to resellers, and protection for BT to ensure that competition does not prevent it covering its costs. The ‘Approaches’ identified were:

2.21 Approach 1, another control similar to the current one – RPI-X% based on the lowest spending 80% of customers – would be appropriate if competition had developed more slowly than was expected in 1996, but could nevertheless be expected to become sufficient to restrain BT’s call prices and profits over the next price control period. In these circumstances, Approach 1 would provide protection for lower users whilst competition would ensure that higher users and business customers benefited from price reductions.

2.22 Approach 2 would introduce broader price controls covering all residential and business customers. Unlike Approach 1 it would target price controls on the areas where BT continues to make excessive profits, i.e. on call prices in all sections of the market. However, Approach 2 supplants the forces of competition rather than using them and would not therefore be appropriate as the primary means of reducing BT’s call prices unless there were little or no prospect of competition emerging in the foreseeable future. As competitive pressures may now be beginning to reduce call prices and profits significantly, such a broadening of controls is not appropriate at present. But further evidence may suggest that the option may need to be reconsidered in the future.

2.23 The aim of Approach 3 would be to increase competitive pressure on BT’s retail prices by encouraging new operators to enter the market to serve retail customers. It would do this by allowing operators without their own networks (known as resellers) to use BT’s network at charges based on the cost to BT of providing the service, rather than at charges based on BT’s retail prices as at present. To achieve this, BT would be required to provide an access product at cost based rates to operators and service providers. Purchasers of this access product would have ’complete control’ of the customer, who would receive only one bill. (Issues associated with this product are considered further in Annex E.)

2.24 Approach 3 relies on the mechanism of competition to reduce prices. It would allow BT greater tariff flexibility in choosing the best way to ensure that customers benefit from continued price reductions.

2.25 Oftel recognises that implementation of Approach 3 would involve a significant element of uncertainty of impact. The experience of the 1996 controls suggests that it is possible to over-estimate the extent and speed to which competition can develop in the retail market. Any decision to adopt Approach 3 may therefore need to be complemented with some form of safeguard cap control over retail prices, at least as a short-term measure. Such a cap would not be expected to act as the ultimate determinant of prices, but would give consumers confidence that some level of price constraint would remain were competition to develop less rapidly than expected. Such a cap would be set in the form of RPI-X. Its precise level, duration, legal status and the breadth of customers covered would need to be determined in the light of the market conditions prevailing at the time it was set.

2.26 Oftel also recognises that a move away from controls of the RPI-X type could increase the bills of low users of telephone services. Although competitive pressures should reduce call prices, BT would face strong incentives to increase line rental charges. For low users, this could mean a rise in the overall level of bills, if the savings achieved on a relatively small number of calls did not offset the increased line rental. BT has indicated that it would in principle be willing to offer a ‘Bill Guarantee’ to guard against such an adverse impact. Oftel believes that such a mechanism could be a helpful complement to Approach 3. Key questions, if it were to be pursued, would be: the correct level of the guarantee; its legal enforceability; and arrangements for its regular monitoring and periodic review.

Proposals

2.27 All decisions on appropriate and proportionate price control strategies depend on an assessment of how competition is expected to develop and the impact that it is expected to have on BT’s prices, as well as on current market conditions. BT has argued that the existing state of competition is sufficient to justify the end of all forms of price control. Oftel believes that the evidence at this time does not justify such a decision, and that some form of ongoing control is necessary.

2.28 However, the analysis of future developments suggests that changes beginning to occur in the market now could have a significant effect on competition and on BT’s market share and profitability over the price control period. Oftel believes that price control decisions have to be forward-looking and take account of these factors. It is difficult to forecast the extent and speed of impact of these competitive pressures with an acceptable degree of certainty before unbundled loops have started to become available and before CPS has become operational in its full form.

2.29 Oftel is therefore proposing that BT’s licence should be modified to extend the current retail controls until July 2002 and that the level of competition is reassessed during the final quarter of 2001. If that assessment suggested that competition had not become fully effective, and appeared unlikely to become so in the near future, Oftel would consider whether further price controls or other measures to stimulate competition, such as the introduction of a cost-based access product (Approach 3), were needed. A cost-based access product would possibly be accompanied by some additional protection for low users’ bills, given that resellers operating Approach 3 would be likely to target high-spending customers in more profitable segments of the market, and possibly by some form of safeguard cap.

2.30 Under this revised timetable for the price control review, Oftel would consult in December 2001 on retail controls that should be in place after July 2002. A statement would follow this consultation by May 2002 setting out the appropriate licence conditions.

Next Steps

2.31 Subject to responses to this consultation, in order to allow this further review of the market Oftel intends to publish a Statement in January 2001 setting out licence conditions which will:

• extend the current retail price controls to 31 July 2002; and
• enable the Director to determine that these controls should continue for a further 12 months to July 2003 if BT has not accepted proposals made by Oftel in 2002 as a result of the review and Oftel has referred the matter to the Competition Commission for investigation.

Oftel would welcome comments on its proposal that the current retail price controls on BT should continue for the period 1 August 2001 to 31 July 2002; and seeks views on the proposal that if competition in calls and access is not increasing significantly by late 2001, a cost-based access product would be introduced.

Calls to Mobiles

2.32 In March 1998, Oftel referred the issue of BT’s retention for calls to mobiles to the then Monopolies and Mergers Commission (MMC). The Director General did not believe that there was sufficient competitive pressure to constrain BT’s prices.

2.33 The MMC reported in December 1998 that it did not believe that the level of BT’s retention was in the public interest and therefore proposed that BT’s retention for fixed to mobile calls should be controlled in a separate (from the retail price controls in place) price control basket. It proposed that BT’s weighted average retention for calls to subscribers on BTCellnet’s network should be 3.40ppm for the financial year 1999/2000, and should subsequently be reduced by RPI-7% in the following two financial years. These controls are set to expire at the end of March 2002. The controls proposed for BT’s retention for calls to Vodafone were the same as those proposed for its retention for calls to BTCellnet.

2.34 BT’s argument that there was sufficient pressure on its retail prices for calls to mobiles predominantly centred on the competitive pressure applied by indirect access operators. Indirect access operators are increasingly applying pressure on BT’s retail prices. Additionally, from 2001, CPS and LLU are likely to increase competitiveness in the fixed to mobile calls market. However, BT’s volumes of fixed to mobile calls remains high. At the time of the reference, BT’s market share of fixed to mobile calls was in the region of 75%. For 1999/2000, its market share had reduced to approximately 69%.

2.35 Oftel will consider the need for controls on BT’s retention for fixed to mobile calls next year. This will culminate in its proposals for the continuation or removal of controls on BT’s retention towards the end of the year. Howver, at present, Oftel proposes that, in order to align the timetables for the retail price controls and the controls on BT’s retention for calls to mobiles, the controls on BT’s retention for calls to mobiles should continue for the period 1 April 2002 to 31 July 2002.

Oftel would welcome comments on its proposal that the controls on BT’s retention for calls to mobiles should continue for the period 1 April 2002 to 31 July 2002 to align the timetables for retail price controls and controls on BT’s retention for calls to mobiles.

Chapter 3

Network Charge Controls

3.1 Telecommunications networks provide a means of communicating with other end-users (including the ability to access data and to purchase goods and services) anywhere else in the world. In a monopoly communications market, end-users would naturally be connected to the same network. However, in a market of two or more players end-users will not always be connected to the same network. Operators of communications networks therefore need to be physically and logically linked together – either directly or via a third party – to provide seamless conveyance of communications services across networks. The connection of communications networks is known as ’interconnection’. The charges for the conveyance of communications services across and between networks and for the physical connection to other networks are known as interconnection charges.

3.2 The level of the interconnection charge is fundamental to the level of the retail price paid by the end-user. That price will include the costs incurred by the end-user’s operator in providing the relevant telecommunications service (inc. retail costs such as marketing), profit and any interconnection charge that the operator might, for example, have to pay to terminate the call on another operator’s network. A high interconnection charge will directly affect the retail price paid by the end-user. It is therefore important for interconnection charges to reflect the costs in providing the interconnection services.

3.3 Figure 3.1 shows the main inland conveyance interconnection services. The network hierarchy to the left of the diagram is symmetrical to that on the right hand side.

Main Inland Conveyance Interconnection Services

3.4 Historically, the Director General carried out annual determinations of charges for interconnection services. However, this regime did not provide BT with incentives to increase its efficiency in the provision of interconnection services. This was because the Director General would retrospectively apply charge determinations so that BT earned its cost of capital, regardless of how efficiently BT’s costs had been incurred. Charges were also based on BT’s fully allocated costs in providing the interconnection services.

3.5 On 1 October 1997, Oftel introduced the Network Charge Controls on BT’s provision of interconnection services to other operators. The level of control depends on the extent of competition in the relevant market. It is not necessary to place controls on a competitive interconnection service. This is because competitive supply of the service should in itself constrain interconnection charges. It is however necessary to control non-competitive interconnection services because the competitive constraint is not there. Without charge controls, therefore, BT might abuse its market power or dominance in the relevant market by setting excessive charges for interconnection services. This could be harmful for the long-term sustainability of competition in UK telecommunications markets.

3.6 The Network Charge Controls were designed to provide incentives for BT to improve its efficiency in the provision of interconnection services. The controls were set using the familiar RPI-X% formula, under which the party subject to controls obtains the benefit of efficiency gains that it achieves over and above the control.

3.7 The Network Charge Control regime introduced charges for interconnection services based on the long-run incremental cost (LRIC) in providing them. Charges based on the LRIC better reflect the basis on which businesses in competitive markets make investment decisions. They also encourage open and competitive markets. The Interconnection Directive (EC/97/33), implemented in the UK with effect from 1 January 1998, required BT to charge for interconnection services at a level derived from actual costs including a reasonable rate of return.

3.8 The Network Charge Controls give BT flexibility to set charges within the overall framework of the regime. However, BT maintains significant market power or dominance in the provision of many interconnection services. This significant market power or dominance stems from its geographical ubiquity, which no other operator in the UK can match, and from the number of end-users connected to its network. Other operators are therefore commercially compelled to interconnect with BT.

3.9 Oftel believes that the competitive environment for the provision of interconnection services has not changed sufficiently for it to remove any non-competitive interconnection services from the baskets in which they are presently controlled, nor does it believe that any of the individual safeguard cap controls (RPI+0%) can be removed. It therefore proposes that from October 2001 services that are presently deemed to be non-competitive and prospectively competitive respectively will continue to be classed as such unless evidence is brought to suggest the contrary. However, BT remains free to set charges for competitive and new services subject to normal competition law or until such time as Oftel reassesses the extent of competitive pressure in the relevant market.

3.10 Oftel proposes that the interconnection services listed below will be subject to charge controls with effect from 1 October 2001. Oftel proposes that the non-competitive services will, as at present, be controlled in ’baskets’ of interconnection services. Prospectively competitive services will be subject to individual charge controls set at RPI+0% and disaggregated by distance, time of day and day of week, where relevant. Competitive and new services will not be subject to charge controls. Oftel will give effect to its proposals by modifying Condition 69, as appropriate.

3.11 BT can approach the Director General at any time with evidence that the market for the provision of any interconnection service(s) has become competitive or prospectively competitive. Similarly, other operators can ask Oftel to assess whether or not the market for the relevant interconnection service(s) is more or less competitive. Oftel would study all the evidence and consult widely before determining whether market conditions had changed. This could result in movement of interconnection services between charge control categories and, as a result, in the removal of or introduction of charge controls.

NON-COMPETITIVE INTERCONNECTION SERVICES

3.12 Oftel proposes that, with effect from 1 October 2001, the baskets of non-competitive interconnection services will be subject to charge controls of between RPI-7.5% to RPI-11.5% (see Annex B for derivation of the proposed value of X). BT will retain relative flexibility to decrease or increase charges within the baskets. However, Oftel expects that charges will generally be set below the stand-alone cost ceiling (i.e. the cost incurred by a firm in providing that service and no others) and above the incremental cost floor (i.e. the extra cost of providing the service given that the firm is supplying all other services, and in this case the relevant increment is BT’s core network). Under Condition 69, BT is required to give ninety days’ notice before changing the charge or the structure of the charge for these services. Oftel proposes to maintain this notification requirement.

The Call Termination Basket: Call termination

Call termination

3.13 Call termination is a non-competitive service. The originating operator has no choice but to terminate a call on the terminating operator’s network. As the calling party pays for calls in the UK, the terminating operator could theoretically – without regulatory intervention – set a high call termination charge without affecting its own business. Its own customers do not pay the termination charge so they would be unlikely to move to another supplier in response to an excessive charge for call termination made by their current supplier. In that respect, call termination charges are not subject to competitive pressure. Allied to this, BT retains a high market share in the fixed access network (see Chapter 2, Table 2.1) and thus terminates a significant proportion of UK calls. In theory, due to their widespread use, mobile call termination charges could place pressure on fixed call termination rates. However, in practice, this is not expected to happen because mobile operators face higher costs in the provision of the service.

The General Network Basket: Call origination; local-tandem conveyance; and single transit

Call origination

3.14 BT’s basic rate and ISDN call origination services are subject to charge controls. BT is obliged to offer these services. Call origination services allow other operators to provide retail call services to BT’s customers. Although BT’s Network Business continues to originate the call, and receives the call origination interconnection payment, its Retail Business loses the retail customer. Retail margins are higher than network margins so BT would prefer to retain the retail customer. In the absence of regulation, charges for call origination might increase. This could reduce the competitive effectiveness of indirect access operators.

3.15 BT provides over 80% of fixed exchange lines in the UK (see Chapter 2, Table 2.1). Oftel does not anticipate that its market share will be dramatically reduced in the period 2001-2005 (see paragraph 28 of Annex B). It follows that BT’s Network Business is likely to originate the majority of fixed calls in the UK. Oftel does not expect that mobile call origination will provide a competitive constraint on fixed call origination. Again, this is because mobile operators face higher costs in providing service.

Local-tandem conveyance

3.16 Local-tandem conveyance is the interconnection service that provides conveyance between the Digital Local Exchange (DLE) and the Digital Main Switching Unit (DMSU), and involves use of the DMSU.

3.17 There are a number of reasons why an operator might interconnect at the DLE level rather than the DMSU level. First, their interconnection outpayments to BT are reduced if they connect closer to the end-user. An operator that always connected at the DLE level pays BT for call origination or call termination, whereas an operator that always connected at the DMSU level has to pay call origination or call termination and local-tandem conveyance. However, operators will decide where it is commercially appropriate to interconnect with BT having taken into account their combined costs of relevant build and interconnection payments. It is less likely that an operator would wish to build to a DLE in a remote area or in an area where its volume of traffic was not great enough to warrant the incurring of costs associated with the expansion of its network.

3.18 BT has stated that twenty-eight operators interconnect at the DLE level. If these operators also have tandem level switches, they can self-provide local-tandem conveyance. In addition, they can compete with BT for other operators’ interconnection traffic on those routes where they have invested in infrastructure.

3.19 However, the majority of operators still interconnect at the DMSU level. Principally, this can be explained by the far larger sum of BT’s DLEs compared to the sum of BT’s DMSUs. Many operators are therefore reliant on BT to provide local-tandem conveyance as well as call origination and call termination. The limited competition in local-tandem conveyance alone is unlikely to constrain BT’s charges for local-tandem conveyance.

Single transit

3.20 Operators have to interconnect with BT because of its market power in the provision of exchange line services. There are not necessarily similar commercial requirements for operators other than BT to interconnect with each other. In many cases, the volume of traffic flowing between operators other than BT might not be sufficient to justify the establishment of a point of interconnection. Many operators, therefore, rely on BT to switch calls bound for another operator’s network. This service remains non-competitive.

The Interconnect Specific Basket: Interconnection extension circuits – in span-interconnection and customer sited interconnection; data management amendment for routing emergency calls for mobile networks; and product management, policy and planning

3.21 Interconnect specific services are services provided by BT to other operators for physical interconnection with it, and include circuits at the point of interconnect which connect networks at inland exchanges. Operators are commercially obliged to purchase physical interconnection services from BT. These services are naturally non-competitive.

3.22 Oftel has recently commenced an own initiative investigation into BT’s charges for the fixed rental element of CSIs and IECs. This investigation was prompted by the observation that the current charges appear to be above their stand-alone cost ceilings for 1999/2000.

PROSPECTIVELY COMPETITIVE INTERCONNECTION SERVICES

3.23 Oftel proposes that with effect from 1 October 2001 prospectively competitive services will be subject to individual safeguard controls set at RPI+0%. Prospectively competitive interconnection services are services that the Director General believes will become competitive. The safeguard controls effectively act as back-stop provisions in the event that competition does not develop significantly enough to constrain BT’s charges. Under Condition 69, BT is required to give twenty-eight days’ notice of changes to the charges or the structure of the charges for these services. Oftel proposes to maintain this notification requirement.

Inter-tandem conveyance

3.24 Inter-tandem conveyance is the interconnection service that provides conveyance between two DMSUs, and involves the use of one of them.

3.25 A number of operators have backbone networks in the UK, and these networks provide links between tandem switches. These operators are therefore able to self-provide inter-tandem conveyance and can compete with BT for other operators’ traffic between the relevant tandem switches. However, Oftel does not believe that the market for inter-tandem conveyance is effectively competitive.

3.26 Inter-tandem conveyance services are subject to safeguard charge controls when disaggregated by time of day, day of week and distance. Safeguard controls were placed on inter-tandem conveyance because it was anticipated that the service would become competitive, and that competition would provide the longer-term constraint on the level of BT’s charges. While BT has not increased its charges by RPI in each charge control year, neither has it decreased its charges. In a fully competitive market, charges would have been driven down to cost. Oftel intends to maintain the safeguard controls to reflect the prospectively competitive nature of these services.

Inter-tandem transit

3.27 Inter-tandem transit is the interconnection service of conveyance between two DMSUs, and involves the use of both of them.

3.28 Inter-tandem transit is provided by BT when a call originates and terminates on networks other than its own, and the originating and terminating operators do not interconnect directly with each other and nor are they both connected at the same BT DMSU. The originating operator therefore needs BT to convey the call to the terminating operator. An individual operator that originates and terminates calls, but does not have the infrastructure to convey the call between the two points, might also purchase this service.

3.29 Competition in the market for inter-tandem transit services is similar to that for inter-tandem conveyance services. Operators with backbone networks can convey calls without the need to rely on BT for conveyance. They can also provide transit services for other operators if they interconnect with the originating and terminating operators.

3.30 BT has not increased the disaggregated charges for inter-tandem transit services by RPI in each charge control year – indeed the charges for inter-tandem transit medium have decreased. Nevertheless, in a competitive market, charges for these services would have been driven down to cost. This has not been the case. Oftel therefore intends to maintain safeguard controls on these services to reflect the prospectively competitive nature of these services.

Directory products and services

3.31 The non-conveyance elements of national (DQ) and international directory enquiry (IDQ) services, entries onto BT’s Operator Services Information System (OSIS is the database on which directory entries are stored) database, supply of phonebooks and supply of customised phonebooks will be deemed to be prospectively competitive. Oftel does not believe that the markets for these services are effectively competitive at present, and therefore proposes that safeguard controls should be maintained.

3.32 Competitive pressures on charges for directory products and services might increase as a result of regulatory action, e.g. a modification was made to BT’s licence on 1 January 1999 requiring it to offer service providers access to OSIS for the purposes of producing directories or DQ products. Oftel also intends to publish a consultation document shortly on the implications of possible future options for the DQ access code.

3.33 Condition 69 of BT’s licence states that use of BT’s directory assistance service (DAS) is subject to a safeguard charge control. However, Pathfinder replaced DAS on 14 April 1999. Pathfinder, like DAS before it, is used to interrogate BT’s OSIS database, which is necessary when operating a directory enquiry service. However, the charges for using Pathfinder are fundamentally different to those that were charged for using DAS (operators are charged per search for accessing Pathfinder whereas they were charged per terminal connected to DAS) that the safeguard controls did not apply. Oftel is not presently minded to introduce a charge control for access to Pathfinder. Other directory products and services introduced since 1 October 1997 are classified as new services and are not subject to charge controls.

NEW INTERCONNECTION SERVICES

3.34 New services is a generic term for services that have been introduced since 1 October 1997 i.e. services for which Oftel did not set a starting charge for the service at the start of the Network Charge Control regime. A new service would be re-categorised only if Oftel had investigated the relevant market and determined that the service was competitive, prospectively competitive or non-competitive. New services found to be either prospectively competitive or non-competitive would be subject to subsequent charge controls. Oftel first needs to establish that the relevant market is not competitive, and that there would be benefits to consumers from intervening, taking into account the likely effects on incentives to invest.

3.35 BT is free to set the charges for new services subject to normal competition rules. However, under Condition 69, it is required to give twenty-eight days’ notice before the introduction of a new service, and the same notice before changing the charge or the structure of the charge for the service. Oftel proposes to maintain this notification requirement. These services are not immediately subject to charge controls because incentives to innovate and invest could be reduced by limiting the returns that BT can make. Diminished incentives to invest and innovate would be to the detriment of customers.

3.36 If other operators could not compete with BT Retail services without access to the relevant interconnection product, Oftel would take action to require BT to introduce the required interconnection service. Oftel has the powers to determine the charge for a new service and place charge controls on it. Oftel could also determine that new services introduced by BT of its own accord could be subject to charge controls. Oftel proposes to maintain these powers.

COMPETITIVE INTERCONNECTION SERVICES

3.37 The Director General can determine that the market for the provision of an interconnection service is competitive. BT would then be free to set the charges for the service subject to normal competition provisions. Under Condition 69, BT has to provide one day’s notice before changing the charge or the structure of the charge for competitive services. Oftel proposes to maintain this notification requirement.

OTHER ISSUES

Reciprocal Charges for Call Termination

3.38 Since 1 October 1997, charges for fixed call termination on OLOs’ networks have been set according to an agreement between OLOs and BT, which reflects the principle of reciprocity. Broadly, OLOs have received per minute payments from BT given by a weighted average of the charges paid to BT for local exchange and single tandem call termination on its network. Whether this has resulted in receipts or outpayments has been dependent on the level of traffic heading in both directions (and other details in the calculation, such as lags in the weights). This agreement is due to expire on 30 September 2001.

3.39 Competitive neutrality between OLOs and BT is a key rationale underpinning the principle of reciprocity and the present arrangements. Most comments received by Oftel on the reciprocal arrangements adopted have been favourable. Any new arrangements should similarly promote competitive neutrality. Oftel believes that the industry should again seek to agree on the specifics of a new agreement for call termination based upon reciprocity to take effect from October 2001. Oftel does not at present intend to mandate what form this agreement should take at present.

Oftel would welcome comments on its suggestion that charges for call termination should continue to be based on the principle of reciprocity, and that the industry should reach commercial agreement on the exact arrangements. Such arrangements should promote competitive neutrality.

Number portability interconnection services and reciprocal charging

3.40 Number portability is a facility that allows customers of telecommunications services to keep their telephone numbers when changing supplier. An operator exporting telephone numbers (the ’Donor Operator’ i.e. their customer is moving to another supplier and retaining their telephone number) charges the importing operator (the ’Recipient Operator’) for the order processes and for future conveyance between their network and that of the Recipient Operator.

3.41 BT’s charges for geographic and non-geographic number portability interconnection services are based on its fully allocated costs in providing the services. The charges for BT’s other interconnection services are based on its incremental costs in providing the services. There is no reason why the cost-base for number portability interconnection services and other interconnection services should differ. This anomaly has no foundation in market conditions. Oftel therefore intends to publish a draft determination in November 2000 in which it will reset the charges for BT’s number portability interconnection services based on BT’s incremental costs in providing the services.

3.42 Donor operators are obliged to provide number portability at the request of their customers. However, the prospective Recipient Operator is not obliged to take on the customer. The prospective Recipient Operator might not wish to take on the customer of the Donor Operator if the latter’s charges for carrying out the number portability order processes are high. Therefore, the Donor Operator has the perverse incentive to handle number portability orders inefficiently. Other operators have to pay for the Donor Operator’s inefficiencies. Oftel believes that the current arrangements have poor incentive properties, could hinder the development of competition, and thereby reduce customer choice.

3.43 Oftel believes that charges for the non-conveyance elements of number portability (i.e. order handling processes) should be based on the principle of reciprocity. Charges for number portability services already have to be reasonably based under Condition 28 (Number Portability) of the standard PTO licence.

Oftel would welcome comments on its proposal that charges for the non-conveyance elements of number portability services should be based on the principles of reciprocity

Implications of uncertainty for coverage of the new charge controls

3.44 The modelling used to set charge controls relies on forecasts of market developments over the charge control period. The volume of traffic using BT’s network is a key driver of BT’s unit costs and hence among the most important variables in the model. However, it is difficult to make accurate forecasts of future volumes. This problem is currently acute because the impact of new developments, such as the growth of broadband services, unbundling of BT’s local loop, carrier pre-selection and the construction of new networks for the carriage of data traffic is particularly difficult to assess.

3.45 Setting a network charge cap is therefore extremely difficult in the current climate and the risk of serious error is significant. This could result in excess profits for BT, damage to competition and high prices for consumers if the charge control is too loose, or damage to investment incentives if the control is too tight. In either case, there is likely to be pressure for regulatory intervention during the life of the control and hence increased regulatory uncertainty.

3.46 A major source of uncertainty is the rate of growth of data traffic and BT’s plan to construct a new Internet Protocol-based network to handle the large volumes of such expected traffic. Switched networks, such as BT’s public switched telephone network (PSTN i.e. basic telephony), are less efficient at carrying data traffic than networks using packet-switched technologies, such as IP. For this reason, BT intends to remove or ‘groom’ data traffic off the PSTN onto the new IP network at the DLE or possibly, in time, at the concentrator level. However, until the new network is complete, it is expected that there will be significant growth in data traffic over the PSTN. The total volume of traffic over the PSTN could therefore rise rapidly to a peak early in the next charge control period and then fall off as traffic is increasingly migrated to the IP network. However, it is difficult to forecast the timing of this migration or the volumes of traffic concerned.

3.47 One means of addressing this problem would be to have a mid-term review of the Network Charge Controls. The charge controls would still be set to last for four years, but could be adjusted after two years if traffic volumes proved to be significantly different (subject to a materiality test) from those forecast at the time the control was set. In particular, the control could be adjusted to reflect the extent of migration to the IP network if this meant that unit costs on the PSTN were higher than expected due to a fall in the volume of PSTN traffic.

3.48 However, this is likely to have undesirable incentive properties for two main reasons.

It is generally in BT’s interest to grow the volume of traffic over its network. But if BT believed that the regulator was likely to intervene to set a tougher X as a result, the incentive on BT to increase traffic volumes would be diluted. This could lead, for example, to reductions in network quality of service or to reduced flexibility in meeting demands to support new retail services.

3.49 Secondly, there would be a danger that, if the value of X applying to PSTN charges were allowed to rise in response to falling PSTN volumes, an artificial incentive to migrate traffic, or to forecast the migration of traffic, from the PSTN could be created. BT could in effect gain twice from migrating traffic off the PSTN. It would find benefit from reductions in total costs, since the IP network is likely to have lower unit costs than the PSTN. And it would also benefit from a more generous charge control as the unit costs of the PSTN increased. It would clearly be undesirable for the price control to give an artificial incentive for traffic to be migrated off the PSTN in this way or, conversely, to give incentives for traffic to be retained on the PSTN if it were the higher cost network.

3.50 Oftel has therefore considered an alternative approach which would combine ease of calculation with good incentives for cost minimisation. Under this approach, the Network Charge Control would apply to services irrespective of which network they were carried over. For example, BT could provide call origination services over either the PSTN or the IP network and reductions in the charges for both would count towards compliance with the charge control. However, the value of X would be set on the assumption that all forecast traffic would be carried over the PSTN and no attempt would be made to model IP network costs.

3.51 This would have a number of advantages. Most importantly, it would have good incentives for cost minimisation. If the value of X covering both networks were fixed, BT would wish to migrate traffic onto the IP network only if this were the cost-minimising solution. At the same time, as credit would be given in the charge control for lower prices on the IP network, it would be possible for PSTN charges to reflect movements in PSTN costs within the overall control, as rises could be offset by reductions in IP network charges. By contrast, a cap that applied to the PSTN only could prevent charges for PSTN services reflecting PSTN costs, in the event that significant migration to the IP network occurred.

3.52 In addition, since the value of X would be set as if all traffic would continue to be carried over the PSTN, there would be no need to forecast the rate of migration, and the modelling process would thus be simplified. This approach would also be consistent with the general approach to m