CHAPTER 6

Tariff regulations: a key factor in developing the economy and promoting competitivity

Tariff regulations are one of the tools used by the regulator to exercise economic supervision over the activity of the public operator, France Télécom, particularly for ensuring fair competition and the fulfilment of the obligations of universal service as well as for bringing tariffs into line with costs.

It is within the legal framework built on Community directives and national law that the DGPT is developing its policy for regulating tariffs so as to deal with the gradual opening of telecommunications services and infrastructure to competition. In 1994, the DGPT developed new tools for this purpose: cost-accounting analysis and international comparisons.

Changes in tariffs over the term of the first contract ractual plan between the Government and France Télécom (1991-1994) were in line with the price cap set in this document, i.e., an annual reduction of 3% relative to the development of Gross Domestic Product prices. This multi-year limit specified in the contractual plan was flexible enough to permit large-scale tariff rebalancing which was reflected in different adjustments for different components (telephony, leased lines).

Finally, two significant events marked the year 1994 in the area of tariffs: the 15 January reform of telephone rates, and in the area of leased lines, an audit of costs, a public consultation held by the DGPT on lines offered and their rates, as well as reductions in tariffs.

1. The regulation of tariffs and of interconnection

1.1. The legal framework of tariff regulation

The ways in which tariffs and interconnection are regulated are defined by the schedule of terms and conditions of France Télécom.

Three systems of tariff regulation are set out in the schedule of terms and conditions:

• a system of individual approval, applicable to services operated under monopoly control.
• in the case of national services, the Ministry of Telecommunications (DGPT) and the Ministry of the Economy and Finances (DGCCRF) have a deadline of one month from the time a France Télécom tariff proposal is received (if there is not notification of opposition within one month, the tariffs are considered approved);
• in the case of international services, the Ministry of Telecommunications (DGPT) has the sole responsibility and a 15-day deadline for expressing its opposition.
• a price-cap type of price control system, which is included in the contractual plan between the Government and France Télécom.

This method of price control is particularly well suited to the current context of an opening to competition and consists of exercising a multi-year tariff limit on France Télécom in the form of a ceiling on changes in real telecommunications prices.

How is the price-cap defined?

The ceiling is applied to a basket of services offered by France Télécom, valued in French francs, which constitutes the reference base of the price-cap; this reference base can be larger or smaller depending upon the regulator's objectives: it will be larger if the regulator seeks to promote a rebalancing of tariffs among the basket's components, and smaller if it seeks to control certain components in particular.

The level of the price-cap was set at GDP -3% for the period 1991-1994, i.e., the price of the basket chosen should fall annually by 3% in real terms. In order to promote the process of tariff rebalancing and reducing France Télécom's debt, the basket was composed of a majority of France Télécom's products and services, representing more than 90% of its turnover.

For the period 1995-1998, the level of the price-cap was set at CPI -5.25%. The CPI (Consumer Price Index, excluding tobacco) was chosen for statistical reasons. The reference basket corresponds to basic services (telephony, leased lines, telephone-related services). In addition, a specific price-cap for leased lines was set at CPI -10%.

• Finally, and less commonly, an arbitration procedure could be used for interconnection between networks

In case of a disagreement between France Télécom and a party requesting an interconnection, either of the parties could ask the DGPT to arbitrate (see below).

1.2. The objectives of tariff regulation: cost-oriented tariffs, and ensuring both the fulfilment of the obligation of universal service and fair competition

Tariff regulations should make it possible to meet both the needs of the regulator (in particular, universal service and cost-oriented tariffs) and those of France Télécom.

In a situation where services and infrastructure are being liberalised, the regulator should also ensure that the principles of fair competition are respected and that tariffs reflect the real costs of doing business.

In this respect, bringing tariffs into line with costs and the concept of universal service seem to be principles that should guide any changes in tariffs: these are also requirements of Community regulations concerning the provision of open networks, as can be seen in the two main directives: the "Open Network Provision (ONP) framework" directive and the "ONP leased lines" directive (see Chapter 5).

But the regulatory authority cannot apply these principles uniformly because it must take into account the nature of the different services of France Télécom.

- telephone service:

There needs to be a gradual rebalancing of tariffs between the different components (fixed subscriptions on the one hand and local and long-distance communication costs on the other) in order to permit France Télécom to bring its tariffs into line with costs so that it faces the competition on a level playing field.

But the regulator must also see to it that the obligation of universal service is fulfilled, and, consequently, that adequate measures are implemented to ensure that all have access to telephone service.

- leased lines:

These are an intermediary product, as they are used either by service providers for developing a package offer, or by companies for their own communications needs. Furthermore, although alternative solutions are beginning to become available (microwave systems, for example), leased lines are still a product that faces little competition.

In this context, the regulator has drawn up three objectives concerning tariffs for leased lines:

• bringing tariffs into line with costs so as to ensure fair competition and truth in pricing,
• giving the regulated operator incentives to increase productivity and to pass these gains on to users, and
• ensuring the medium-term foreseeability of tariffs.
• the conditions of interconnection:

The approach chosen by the DGPT takes into account both the principle of bringing tariffs into line with costs and universal service and its financing. In the area of interconnection charges, this approach has led it to adopt as its starting point both costs and contributions from averaging tariffs and from universal service (access deficit charges).

1.3. The regulator's tools: cost-accounting analysis and international comparisons

The DGPT has two basic tools: cost-accounting analysis and international comparisons.

The schedule of terms and conditions for France Télécom requires that it have a cost accounting system which makes it possible to analyse costs so as to understand which portion of turnover derives from the various products and services.

The regulator exercises accounting control by seeing to it that, first of all, the overall profit margin from a given range of services has a reasonable character, and second, that tariffs are developing in a way that reflects the structure of costs.

When a more fine-tuned assessment is necessary, for instance, within a range of products or services, the regulator can request that an audit be made: this was the case for leased lines in 1994; it was essential to have the costs broken down by categories of speed and distance.

International comparisons are also a good indicator. Two types of comparisons are carried out:

• comparisons of tariffs, which make it possible, first, to compare the structure of tariffs and the prices of the main components, and second, to assess the level of tariff realigning between different operators;
• comparison of consumer baskets that are representative of users' real spending and make it possible to compare the average prices of different services. Nonetheless, there is the problem of choosing the consumer basket; one solution might be assuming that the Western European countries have similar structures of consumption.

The choice of the terms of comparison is important. The regulator has two choices: exchange rates and purchasing power parities. Exchange rates are simpler to use and are more appropriate for international markets, such as assessing the cost of telecommunications for large companies that might resort to different alternative solutions provided by foreign operators. Purchasing power parities, which are more complex, indicate the cost of telecommunications for residential users.

2. Changes in tariffs for 1991-1994 and international comparisons

3. The main developments in tariffs in 1994

3.2. Leased lines

Cost-oriented tariffs for leased lines is essential because of their technical and commercial characteristics; however, the difficulty in understanding their costs precisely is a major obstacle to the approval of tariffs for leased lines in 1995. This is why an independent firm carried out an audit of the cost of the lines leased by France Télécom.

In addition to a simple understanding of the structure of costs, it became apparent that the regulator needed to develop regulatory measures specifically for leased lines in order to offer users a clear picture of tariffs in the medium term. This was one of the questions posed to the relevant economic players during the public consultation on the pricing and supply of leased lines (Note: this advisory document can be ordered by fax on: (33-1) 43 19 65 34).

3.2.1. The audit

There were two reasons why the DGPT, with the agreement of France Télécom, requested an audit of the cost of leased lines:

• the texts applying the ONP to leased lines set out two basic rules: the principle of bringing tariffs into line with costs, and the need for telecommunications organisations to use an appropriate, transparent cost accounting system.
• the negotiations held in the autumn of 1993 between the regulator and France Télécom for the approval of tariffs for 1994 proved to be difficult, particularly because of the lack of relatively reliable, accepted data on the cost of the different categories of leased lines as well as on the tariffs charged by the big operators.

In this context, the audit took up three tasks:

• to audit the cost price of leased lines for the years 1991 and 1992, the only ones completed at the date the audit was made, in regard to both the methods used by the cost accounting and the value of data, and to propose recommendations for improving the system for short and medium-term calculations;
• to assess whether this system complied with the ONP rules;
• to make international tariff comparisons for the main services of the big European and American operators.

The audit was carried out by the KPMG firm between January and July 1994. Its basic results show that the system used by France Télécom to allocate costs in the field of leased lines is well designed overall and complies with the general guidelines of the ONP directive.

Following recommendations by the auditor, improvements and modifications to the system were made during the second half of 1994. Others will be undertaken in the future. These improvements concern the management of fixed assets, the integration of an allocation base for costs in terms of distance, and cost accounting (the development of a catalogue list in particular). The DGPT is responsible for following up these modifications.

For the first time, this operation gave the DGPT a reliable, up-to-date reference base for the cost of leased lines. This base is also sufficiently finely tuned to make it possible to judge the appropriateness of tariffs, as costs are broken down by speed and distance.

These observations were taken into account in the process of approving tariffs for 1995 for leased lines:

The main developments in tariffs for leased lines in 1995

• no increase in tariffs;
• reductions in tariffs ranging from 3% to more than 16%, depending on length, speed, and whether the lines are analogue or digital. Tariffs in 1995 fell in 1994 by 7.5% (in constant FFr) for all leased lines, 3.8% for analogue lines, and 10.2% for digital lines. This reduction translates into an overall decline in annual bills for business of FFr 500 million;
• the simplification of tariffs by:

* the elimination of the 500 km ceiling,

• the consolidation of prices for low and medium-speed analogue and digital lines longer than 300 km;

- an expansion of the policy of discounts for long-term 3- and 5-year contracts and for high-volume contracts;

• an expansion of services offered by making 34 Mbit/s lines available in certain regions.

3.2.2. The public consultation on leased lines

Given the economic significance of leased lines for business, the regulator wanted to follow up on the results of the audit and further develop the information available on this market.

Hence, a public consultation on leased line services and tariffs was initiated in September 1994 by the DGPT in collaboration with the DGCCRF, involving the relevant economic players (major accounts, trade associations and user representatives, service providers and operators, telecommunications and IT manufacturers, cable operators, IT service firms, and consultants).

What were the objectives of this consultation?

• to explain the international comparisons made during the course of the audit,
• to raise questions to the sector about competition, particularly the inclusion in the France Télécom catalogue of the 34 Mbit/s service and the conditions for customised service,
• to consult the economic players on methods of tariff regulation, in light of the upcoming 2nd contractual plan between the Government and France Télécom.

The DGPT received 54 contributions, which expressed three main concerns: the high-speed leased line service from France Télécom, the quality of service offered, and the level of tariffs and tariff regulation. A summary of the contributions received will be published during the first half of 1995 (to order, fax (33-1) 43 19 65 34).

The 2nd planing contract between the government and France Télécom:

a reduction in leased line tariffs of about 40% in 4 years

tariffs and tariff regulation

Specific price controls for leased lines were set up using the following measures:

• changes in tariffs for leased lines, including international leased lines, will be on average at least 10% below the increase in consumer prices (excluding tobacco);
• there will be no increase more than 2% above the rise in consumer prices (excluding tobacco) on analogue (2 and 4 wire) and digital ("Transfix" service) leased lines, including those between France and the Overseas Departments.

quality of service

France Télécom generally is required to publish consumer charters by the end of 1995 which set out its concrete commitments on the level of quality of service and specify corresponding penalties in the case of failure to meet these commitments. This should make it possible to readjust relations in favour of the customer.

More specifically in the field of leased lines, France Télécom must:

• set a maximum deadline for supplying leased lines that are less than or equal to 2 Mbit/s of less than 15 working days;
• reach a maximum typical recovery time for disruptions in service of less than 2 hours and 50 minutes;
• reach a level of availability of digital leased lines of 99.8%.

service offerings

34 Mbit/s leased line service should be offered by the end of the contractual plan: 34 Mbit/s leased lines should be available at the same tariffs for the entire national territory.

3.2.3. Tariffs for international leased lines: an average reduction of 7% in 1994

International leased line tariffs were changed on 1 January 1994.

This tariff readjustment was reflected in an average fall in tariffs for international leased lines (analogue lines and digital lines) of about 7%. The reduction in tariffs was greater for digital lines: an average of 17%.

The changes in tariffs resulted in bringing the initial fee for connecting analogue international lines into line with the fee for national leased lines. As for digital leased lines, the initial connection fee fell by about 66% for inter-continental lines.

In addition, for speeds from 128 kbit/s to 2 Mbit/s, the initial connection fee for permanent leased lines in the case of one, three, and five-year contracts is now free.

As for the periodic fee (subscription), the main reductions in tariffs for digital international leased lines were about:

• 25% for a 64 kbit/s line to the United States,
• 3 to 30% for speeds from 128 kbit/s to 512 kbit/s, 30% of which are to the United States,
• and 20% for a 2 Mbit/s line to the United States.

2. Changes in tariffs for 1991-1994 and international comparisons

3. The main developments in tariffs in 1994

3.2. Leased lines

Chapter VII