Competition, universal service and telecommunications policy in developing countries

Local telecommunications service has traditionally been provided by a monopoly under a regulated price structure. In most countries and jurisdictions, an explicit goal of regulation has been the provision of service to customers in high cost areas at 'affordable' prices and this has been achieved by cross-subsidies within the regulated monopoly. In recent years, however, changing technologies and an increased appreciation of the benefits of competition in traditional natural monopoly industries have generated powerful forces for deregulation of local telecommunications. These forces threaten the viability of this traditional method of universal service funding. In this paper, we empirically evaluate these tradeoffs with special attention to parameter values that are relevant for developing economies. Using a forward-looking engineering process model of the local exchange network, we generate cost data sets that we use to fit cost functions corresponding to various entry scenarios. These cost functions, in turn, are combined with models of firms' competitive behavior that represent these entry scenarios and regulatory intervention to calculate market equilibria and compare them on the basis of social welfare. This analysis provides a simple characterization of the conditions under which urban-to-rural cross-subsidies may still prove to be a powerful tool for financing universal service under competition. The main conclusion of the paper is that these conditions are often met by developing countries. (C) 2000 Elsevier Science B.V. All rights reserved.