Do Economic, Institutional, or Political Variables Explain Regulated Wholesale Unbundled Local Loop Rate Setting?

07 March 2016
By Dr. Gary Madden, Dr. Christian Dippon, and Dr. Hiroaki Suenaga

In this study, published in Applied Economics, NERA Senior Vice President Dr. Christian Dippon, Affiliated Academic Dr. Gary Madden, and Dr. Hiroaki Suenaga provide insight into the drivers behind regulatory rate setting and whether regulated prices are set consistently across nations. The study considers the hypothesis that economic, institutional, and political variables influence rate setting. To test this hypothesis, price equations are derived separately for local loop unbundling (LLU) and line sharing (LS) based on panel data from OECD member countries. The analysis attempts to incorporate the incentive regulation arguments of an agency problem between the regulator and the regulated firm, posing the question: Do economic, institutional or political variables impact regulated wholesale rate setting? The study finds evidence of both regulatory capture (to benefit incumbents) and retail margin setting to encourage entry (to benefit entrants). The estimating equations clearly show that although regulators pay attention to economic fundamentals when setting mandated rates, these deliberations also are affected by regulatory capture by the incumbent (initially high but declining rates) and the concern to encourage entry (by setting retail margins sufficiently large enough to encourage entry). Thus, from the regulators’ perspective, the mandated rates appear “fair to all.”