This article extends the theory of network competition by allowing receivers to derive a surplus from receiving calls and to affect the volume of communications by hanging up. We investigate how receiver charges affect internalization of the call externality. When the receiver charge and the termination charge are both regulated, there exists an efficient equilibrium. When reception charges are market determined, each network finds it optimal to set the prices for calling and reception at its off-net costs. The symmetric equilibrium is efficient for a proper choice of termination charge. Last, network-based price discrimination creates strong incentives for connectivity breakdowns.
* Motivation. The deregulation of telecommunications has led to new forms of competition for retail customers through sophisticated and discriminatory pricing. The literature on this new competitive environment (1) has neglected the facts that subscribers care about the number of calls they receive (call externality), that networks may charge their subscribers when they receive calls (receiver-pays principle), and that subscribers can affect volume by hanging up (receiver sovereignty).
Reception charges play an increasingly important role in the case of mobile telephony. The receiver-pays principle is, for example, applied to mobile phone reception in the United States, Canada, and Hong Kong, as well as for international roaming on GSM mobile networks or domestic roaming in the United States. (2) Reception charges similarly play a key role in the new Internet economy, as both sides of the markets (e.g., dial-up customers and websites) are charged for the capacity and usage of their connection with internet service providers or backbones. (3)
The relevance of consumer sovereignty depends on the level of reception charges. For the moment, receivers on fixed-link networks are not charged for receiving calls. (4) Their primary incentive to abbreviate a conversation is the opportunity cost of their time when they receive the call. (5) We would thus expect the impact of receiver sovereignty to be minor. By contrast, mobile phone subscribers often give their number to a restricted set of people and keep conversations short; dial-up customers in countries (such as France) that have per-minute reception charges substantially limit the length of their connection to the Internet.
The purpose of this article is to extend our understanding of network competition to environments with call externalities and receiver sovereignty in which firms can charge customers for receiving calls. Enriching the existing analysis to account for the existence of receiver surplus and sovereignty serves more than a descriptive purpose, though. On the positive side, reception charges and receiver surplus both alter the operators' competitive strategies. The (outbound) call charge exerts an externality on the receiver, whose level depends on the latter's reception charge. Thus, the pricing of the call service to a subscriber affects not only the welfare of this subscriber, but also that of other subscribers on all networks, and similarly for the choice of the reception charge, if the latter has any impact on the determination of volume. We investigate networks' pricing strategies in this environment. On the normative side,...