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Competition in wireless telecommunications

Miguel Angel Campo-Rembado, Arun Sundararajan

Last revised: August 2004

Abstract:   This paper presents an analysis of competition in wireless telecommunications that models the interdependence between spectrum availability, network infrastructure deployment, the generation of transmission technology, average traffic levels and service quality. We show that the constraints on spectrum availability and infrastructure that characterize this industry lead to service quality levels that are endogenously affected by market share, and this negative externality leads to bilaterally higher pricing power for competing providers. We incorporate the effects of these negative usage externalities into a two-stage game of quality competition with required minimum infrastructure levels, and establish two distinct kinds of fulfilled-expectations subgame perfect equilibria. Under the first equilibrium, which occurs at both very low and very high levels of average traffic, providers deploy the minimum permissible network infrastructure and price symmetrically. The second kind of equilibrium is asymmetric in both network deployment levels and pricing, though the equilibrium extent of quality differentiation is moderated by the externalities highlighted earlier. Analysis of these equilibria reveals three phases in a wireless market's evolution. In early-stage markets, providers should maintain minimum infrastructure levels and avoid active quality-based differentiation, relying instead on externality-based pricing power. As wireless markets mature, providers need to pursue an aggressive quality differentiation strategy, accompanied by continuous and rapid growth of their network infrastructure. Our model explains why the observed industry trend of relatively flat average revenue per user may be a natural equilibrium outcome during this phase, even though usage levels and value grow steadily. Finally, we identify a threshold level of average per-user traffic at which viable service quality levels and positive profits are not sustainable, and discuss how the rapidly declining profits and quality levels that precede this threshold should trigger active migration to the next generation of transmission technology.

JEL Codes: D43, L13, L96

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