Competition in the Market

You're in the section: Overview -> First Approach: Competition -> Competition in the Market

There are several approaches to facilitating competition in the market. When all elements of the utility service can be competitive, then generally a primary job of the regulator is to remove barriers to entry or competition. Typical steps include removing licensing restrictions or large licensing fees,2 reducing switching costs, and requiring access to essential inputs, such as telephone numbering resources.

When some elements of the utility service have monopoly characteristics, such as gas distribution lines, and other elements can be competitive, such as gas production, then regulators also use tools such as structural separation and unbundling to facilitate competition. Structural separation separates the potentially competitive portions of the utility service from the non-competitive portions. For example, electricity generation is generally considered to be potentially competitive, but electricity distribution is not.3 These non-competitive, yet essential portions of the service are called essential facilities.4 Structural separation prohibits a single operator from providing both the competitive and non-competitive portion of the service.

The intent of separation is to ensure that the provider of the essential facility does use its control of the essential facility to hinder competition. Structural separation is sometimes called unbundling, but some forms of facility or service unbundling may be less severe than structural separation. With simple unbundling, for example, the regulator may allow a single operator to combine competitive and non-competitive elements to provide bundled service, but also require the operator to allow rivals access to the essential facility so that the rivals are not disadvantaged relative to the operator’s own competitive service.5 For example, some regulators require incumbent fixed line telephone operators to allow rivals to lease local telephone lines, but the regulators also allow the incumbent operators to continue to offer a retail service that bundles the local telephone line with usage. Regulators that want to facilitate competition generally take steps to remove barriers to entry, even if structural separation or unbundling is required.

When structural separation or unbundling do not involve separate ownership, regulators often require accounting separation or ring fencing to ensure that there is no cross-subsidization from the non-competitive operations to the competitive operations. Accounting separation is described in more detail below in the subsection on Financial Analysis and in Chapter III.

Access pricing is an important element of regulatory policies designed to facilitate competition in the market. When a utility service is unbundled, the rivals often pay the operator an access price for use of the non-competitive element of the service. Because this price is a source of revenue for the incumbent operator – the operator that provides both the competitive and non-competitive portions of the service – and a cost for the incumbent’s rivals, the incumbent has an incentive to raise this price to a level that limits competition. In cases such as telecommunications where competitors must interconnect their networks in order to allow customers of rival networks to communicate, regulators generally require service providers to negotiate such interconnection arrangements and adopt cost-based prices.

Footnotes

  1. Market Structure and Competition’s reference section on Competition in Infrastructure Markets covers competition in the market.
  2. Large license fees are a barrier to entry when they limit the number of entrants that can profitably enter the market. When there is another binding constraint on the number of possible competitors, such as a physical limit on the availability of radio spectrum, then the license fee determined through a competitive process, such as an auction, serves to determine who enters the market rather than the number of entrants.
  3. The experience to date in some countries is that governments have stopped short of selling the unbundled parts, which raises problems if private operators are asked to compete with a state-owned enterprise.
  4. A facility is considered to be an essential facility if it is necessary for the provision of the final product and cannot be economically produced by rivals to the essential facility provider.
  5. Some jurisdictions use the term unbundling to refer to accounting separations, which is the act of separating accounting costs and revenue between the competitive and non-competitive portions of the enterprise. We use unbundling to mean the unbundling of services or facilities, not accounts.