Competition Studies

Achieving Competition in the Liberalised Telecommunications Market (Executive Summary) (1996)

1.    The liberalisation of the fixed telephone network in July 1995 marked a turning point in the development of the telecommunications market. It was the most important evidence of the Government's commitment to competition rather than monopoly provision as the best way forward for the industry and Hong Kong.

2.    The issue of three new Fixed Telecommunications Network Service (FTNS) licences is, however, very much a beginning. Unlike the deregulation of the telecommunications industry in other countries, deregulation of the fixed network has not been accompanied by liberalisation of the international telecommunications market, which is only due to take place in 2006.

3.    The Consumer Council welcomes what has been achieved to date - the liberalisation of the FTNS market and development of a competitive retail market for the provision of mobile, Internet, and other value-added services; and the establishment of the Office of the Telecommunications Authority (OFTA).

4.    We believe that competition will: bring about productive and allocative efficiency; increase consumer choice; reduce prices; and improve quality.

5.    At this early stage of liberalisation, the dominant fixed network operator still accounts for 99% of basic telephone services and 88% of outgoing international calls(Note 1).

Objectives of the study

6.     Telecommunications services are a major utility in Hong Kong. In view of the major changes undergone by the industry, this study aims to:

  1. examine competition issues arising from the transformation in the local Fixed Telecommunications Network Services (FTNS) market as the monopoly provider gives way to multiple suppliers;
  2. identify barriers to competition; and
  3. make recommendations to promote effective competition and maximise benefits to consumers.

7.    The study focuses on the need to maintain momentum in the opening up of the fixed network market, and on ways to promote competition in international retail tariffs given the continuing monopoly on the processing of incoming and outgoing international traffic.

The FTNS market

8.    A local fixed network, which is a 'public switching telecommunications network' (PSTN) connecting to almost all residential and business premises, is by far the most important part of the infrastructure for most forms of telecommunications services. The cellular network, which has established a strong market presence in recent years, serves as a complement to, rather than a direct substitute for, a fixed network. It remains to be seen whether Personal Communication Services (PCS) will be in direct competition with FTNS.

9.     Consumers and service providers have to have access to a PSTN in order to receive and provide services (or usage) through the network.

10.     Before liberalisation, all consumers and service providers had to rely on only one network owned by Hong Kong Telephone Co Ltd (HKTC) and pay HKTC an access fee (Appendix 1). The fees include:

  1. Local tariffs
    Currently, consumers pay $65 per residential line and $98 per business line. This includes access and free usage of basic voice services. As part of a package of tariff reforms, the Government introduced limits or 'price caps' on the amount by which HKTC can increase local tariffs, while requiring international tariffs to decrease by a certain percentage within a prescribed period(Note 2).
  2. Interconnection charges
    Value-added service (VAS) providers, e.g. mobile operators, pay an interconnection charge (or access charge) of 9 cents per minute. This allows them to provide services to consumers on HKTC's network.
  3. Delivery fees
    The international carrier, Hong Kong Telecom International Ltd (HKTI), must have access to the HKTC network in order to deliver international calls from and to consumers. The access charge paid by HKTI is often referred to as the delivery fee, which is determined on a revenue-sharing basis.

11.     Following liberalisation, three new operators, Hutchison Communications Limited (HCL), New T&T Hong Kong Limited (NT&T) and New World Telephone Company Limited (NWT) have begun building an alternative network to compete with one another and HKTC for local customers, contracts with service providers and for the delivery of international calls (Appendix 2). They also compete in the provision of value-added services.

12.    In order to fulfil their licence conditions, the three new FTNS operators are obliged to build a trunk network by 29 December 1996. They are currently negotiating with the Mass Transit Railway (MTR) company to build a network along the MTR lines. With new technologies such as fibre optics, the cost of building a network is much reduced and the installation causes much less disturbance than was previously the case. Nevertheless, the new network will take some time to roll out and will not provide full coverage throughout the territory. The new FTNS operators have to rely on interconnection with HKTC's network to provide services to their customers, for which they pay HKTC interconnection charges. Therefore interconnection between the FTNS operators is an important issue at this early stage of liberalisation.

13.     There is no legal reason why competition for local fixed network services cannot be introduced, bringing with it more choice for consumers. However, for commercial reasons, the FTNS operators have concentrated on other activities e.g. international and value-added services, which are more profitable.

14.    In this competition study, the Consumer Council looks at barriers that may prevent the development of competition in certain markets. We take as our guiding principle the requirement for:

  1. increased efficiency;
  2. non-discriminatory practice;
  3. disclosure and transparency of information;
  4. air and reasonable tariffs and interconnection charges;
  5. an equitable arrangement for the provision of universal service; and
  6. reasonable regulatory safeguards.

Challenges for new entrants to the FTNS Market

15.    The new entrants have to overcome significant market and structural barriers in order to offer a viable fixed network service. The key challenges facing new entrants to the FTNS market are:

  1. the competitive advantage of the incumbent in the control of the existing network; and
  2. organisational integration between related companies of the incumbent in different telecommunications markets.

Competitive advantages

16.    KTC has inherited obvious advantages: comprehensive network coverage, economies of scale and large customer base.

17.    The near universal coverage of the network gives HKTC control of gateways between networks for which it can make interconnection charges. Ownership of gateways also allows HKTC to determine the capacity passing through a particular line or network.

18.    In terms of building a network, new entrants may have difficulties in finding suitable sites for local exchanges particularly in developed areas. The incumbent by contrast, already has sites on which to accommodate its local exchanges, most of which are leased through private treaty grants from the Government. In these circumstances, the Consumer Council supports the Government policy to facilitate sharing of land for local exchanges equitably between operators. The Council recommends that the Government, in consultation with industry, continues to monitor the FTNS operators' discussions on the sharing of facilities so that the agreement reached to facilitate an equitable access to sites for local exchange among all parties.

19.    In terms of building a customer base, it is important that consumers are able to change operator without having to change telephone numbers (number portability). The Consumer Council commends OFTA's role in introducing number portability to the liberalisation process. To increase its convenience to consumers, number portability should be delivered in an efficient manner, and there should be no discriminatory and preferential treatment. New operators, nevertheless, have to offer something extra, for example, reduced charges or value added services, in order to persuade consumers to go to the trouble of changing operator. Although their ability to reduce costs is constrained by the tariff structure inherited from the single supplier period, new entrants are striving to reduce costs through improved efficiency.

Organisational integration

20.    HKTC competes with the new FTNS operators in the provision of services, but is also a major supplier of essential network facilities to the new entrants and information and value-added service providers.

21.    As part of an international conglomerate dealing in various spheres of telecommunications business, e.g. infrastructure provision, international and domestic telephone services, HKTC inevitably enjoys an advantage over the new FTNS operators. The Telecommunications Authority (TA), who is the Director General of OFTA, has already required HKT to divide its functions and maintain separate accounts for each of its companies in accordance with the TA's Accounting Manual. The affiliate companies must deal with each other at arm's-length. In practice, HKTC still enjoys a competitive advantage from the close connection with other HKT affiliates, especially in the sharing of information, product development research, and the provision of network facilities essential for the distribution of services to customers.

22.    The Consumer Council suggests that the TA requires reasonable disclosure of the accounts of HKT and its affiliate companies to enable the public to have a more informed view.

23.     The Consumer Council also sees a need for the TA to exercise its power to facilitate the sharing of information, e.g. network technology plans for interconnection, provided that the information is not commercially sensitive. The TA should also ensure that services, particularly in areas where a telecommunications conglomerate has monopoly or near-monopoly power, are available to all licensees on a non-discriminatory basis, i.e. that there should be no discriminatory or preferential treatment in the price, quality, availability and efficiency of the services offered by any telecommunications operators to their affiliates or other companies.

Factors affecting the development of competition

24.    The extent of competition also depends very much on the arrangements in the following areas:-

  1. tariff structure for local and international calls;
  2. universal service obligation;
  3. interconnection arrangements.

The tariff structure

25.    The Consumer Council has been informed by Hongkong Telecom and the Government, local tariffs are artificially set below cost and are subsidised from international revenue. The new FTNS operators regard the local tariffs as too low to provide an incentive to compete in the market. Nevertheless, certain operators have provided basic services for businesses at a lower price than that charged by HKTC.

26.    This raises the following two questions: (a) what is the basis on which the subsidy from international to local services is calculated; and (b) is there a need to remove such a subsidy in order to bring both local and international tariffs closer to costs (a process described as tariff rebalancing).

Extent of subsidy

27.    The amount of cross-subsidy, often referred to as the "access deficit", is the shortfall between the revenue collected from local tariffs and the expenses incurred by HKTC in providing a basic service and fulfilling its universal service obligation (paras 30-34 below refer). The amount of subsidy, however, is unknown to the public. The Consumer Council therefore recommends that OFTA should ensure the amount of access deficit including the methodology used in allocating fixed and common costs to different services offered by HKTC and its depreciation policies, is publicly available. This will enable the public to understand how much of the international revenue transferred to HKTC has been used to cross-subsidise local basic telephone services.

Tariff rebalancing

28.     Assuming there is a subsidy, we have to consider whether, as a matter of policy, Hong Kong should proceed with tariff rebalancing. If so, when and how.

29.    In a fully liberalised market, charges for international and local calls would be determined by market forces, and consumers as a whole would derive long-term benefit from the lower prices of telephone calls due to competition. However, Hong Kong's case is unique in that deregulation of the telecommunications market did not extend to international telecommunications. For consumers, tariff rebalancing means that as the subsidy, if any, is removed, local tariffs may be increased, while international tariffs reduced. The full benefit to consumers from tariff rebalancing will be realised only when full and fair competition comes into play. However, the liberalised FTNS market is still in the early stages of development and will take some time to bring about competition.

30.    The Consumer Council maintains that consumer interests must be protected and that, in the present situation where there is no clear and concrete information indicating how consumers may benefit, tariff rebalancing should remain as a long-term objective, phased in along with the realisation of effective competition in the market.

Restructuring of local tariffs

31.     Restructuring of local tariffs is another issue of critical concern to the consumer. The Council is conducting its own analysis of possible options, but needs more cost and price information to make a full assessment of the financial and social implications for consumers. The Government will shortly be issuing a consultation paper on various alternative structures of local tariffs. The Consumer Council will provide its views once it has such further information.

Universal Service Obligation (USO)

32.     Under the current arrangement, HKTC has an obligation to provide a basic telephone service (access and voice usage) to all who request it. HKTC charges these customers a uniform rate for telephone installation and flat monthly rental, even if HKTC incurs a loss in doing so. This is known as the universal service obligation. The new entrants, who do not carry such an obligation, have to contribute by paying HKTC an amount known as the Access Deficit Contribution (ADC), which now stands at 35.8 cents per minute of international call(Note 3).

33.    The amount of ADC not only includes the actual cost of universal service but also a share of the cross-subsidisation from international revenue to HKTC for keeping its local tariffs at a low level. Even though OFTA is committed to replace ADC with a Universal Service Contribution (USC) after the current ADC expires on 31 July 1996, there is an obvious need to separate and reveal the amount of two elements: cross-subsidies and the cost of the USO.

34.    The Consumer Council recommends that an independent Universal Service Fund should be established and managed by OFTA, with every FTNS operator contributing an equitable share. OFTA should also explore other means of allowing the operators to share the Universal Service Obligation, in order to give the new entrants some incentive to provide basic services to consumers. For example, OFTA can identify some "uneconomic areas" and invite all FTNS operator to bid by stating the amount of subsidy they would require from the Universal Service Fund for providing this service.

35.    The Consumer Council also recommends that OFTA should separate clearly the cost of universal service provision from the cross-subsidisation from international revenue to HKTC. OFTA should examine other pricing methods for the calculation of universal service costs, for example, the Long-run Average Incremental Costs (LRAICs) method (used in Australia and the U.K) or other alternative methods. The calculation should take into account the separate costs for the provision of access and usage.

36.     There is also a question as to how the cost of the USO should be shared. Currently the main source of Universal Service funds is international revenue. In view of the growing revenue generated from information and value-added services which also make use of the network, a new and equitable funding arrangement needs to be found. The Consumer Council therefore recommends that OFTA expands the source of universal funding to include the growing number of value-added services.

Interconnection arrangements

Customer interconnection

37.     Interconnection between customers and FTNS operators is vital if consumers are to have access to the services offered by the operator of their choice. There may be some consumers who cannot be directly connected to new operators because (a) the new FTNS operators will take a number of years to roll out their services; and (b) there is no room for the new FTNS operators to install cabling inside their existing office building or residential block. In that case operators will have to continue to rely on interconnection via the existing cable or 'local loop' owned by HKTC. Access to the local loop (known as 'type II interconnection'), and the terms on which it is available are therefore of crucial importance in ensuring fair competition and consumer access in the near future. The development of new technology such as cordless access systems, may reduce the need for type II interconnection in the long term.

38.    The Consumer Council recommends that HKTC should allow new entrants to interconnect with its local loop at a price (Type II Interconnection). Interconnection being such a critical issue in competition, OFTA should have the power to determine as necessary such that this price must be set at a reasonable level, in the consumer's interest, and that it will enhance the competitiveness of the new entrants and also encourage investment in network infrastructure. The Consumer Council recommends that Guidelines(Note 4) for new buildings, requiring developers to provide ducts and reasonable space for telecommunications facilities and to allow non-exclusive free access by all network operators, should be given statutory force through amending the Telecommunication Ordinance or the Buildings Ordinance. The TA should also discuss with the Building Authority, relevant Government departments, the professional institutions and Real Estates Developers' Associations design details to be stipulated in the law and to exclude floor space reserved for such telecommunications facilities from the plot ratio of building projects.(Note 5)

39.    The Consumer Council also recommends that the TA should take measures to increase public awareness of provisions for non-discriminatory access and publicise its powers to deal with complaints about denial of access to operators by owners' corporations or by a conglomerate giving favourable treatment to its associate telecommunication companies.

Network interconnection

40.     Interconnection or access charges constitute a major portion of the operating costs of the new FTNS operators, information and value-added service providers. Hence, their competitive edge and commercial viability are very sensitive to the level of charges. These charges are also of public interest, as consumers ultimately have to bear the cost.

41.    The Government's policy is to allow terms and conditions of interconnection to be determined by commercial agreement. If agreement cannot be reached, or the TA considers the terms and conditions reached to be anti-competitive and against the public interest, the TA has the power to determine the terms and conditions itself.(Note 6)

42.     Currently all service providers e.g. FTNS, PMRS and Internet operators(Note 7), pay a 9 cents per minute charge to access HKTC's network for incoming and outgoing traffic. This amount was determined by the TA and appears to have been based on the charge for a multiple-to-multiple point of voice message interconnection such as that applied to mobile operators. The Consumer Council asks the TA to consider, at an appropriate review point, whether the simpler one-to-multiple point of electrical data interconnection by FTNS and Internet providers to the HKTC network should be charged on the same basis.

43.    When the terms and conditions are determined by the TA, as in the case of the 9 cents per minute charge discusses above, or delivery fees received by the local operators in carrying international calls, the public can find out about the charges and the rationale behind them. However, terms and conditions reached under commercial negotiation are not disclosed to the public, even though some of the terms may be of public concern. The Consumer Council therefore suggests that the TA makes the terms and conditions of interconnection between FTNS operators and between FTNS operators and HKTI available for public consumption, provided that the information disclosed is not commercially sensitive.

International telecommunications

44.    Hong Kong's case is unique in that liberalisation of the telecommunications market did not extend to international telecommunications. The international call market will not be fully open to competition until 2006, when HKTI's exclusive franchise is due to expire. HKTI relies on the FTNS operators and PMRS network to deliver the calls to and from consumers.

45.     Competition has been developing at the retail level with call-back services, in particular, opening new avenues of competition. While HKTC delivers most incoming calls, its share of the outgoing call market has fallen to 88%, with other FTNS and PMRS operators accounting for 7% and call-back operators 5% of the market share. Thus consumers have some choice and lower tariffs for international calls.

46.    New operators' ability to reduce tariffs is constrained by the amount of delivery fee they receive from HKTI on a revenue-sharing basis and the Access Deficit Contribution (ADC). The delivery fee is the per minute revenue share received by local operators. The rest of the revenue share goes to HKTI covering its operating costs, profits and net payments to overseas operators for delivering international calls. And the amount of net payment to overseas operators depends on the settlement rates (the 'accounting rates'), which are the result of HKTI's bilateral negotiations with its overseas counterparts.

47.    In the remaining ten years of HKTI's exclusive franchise, the Consumer Council believes that it is important for the Government to make strenuous efforts to safeguard consumer welfare. The Consumer Council welcomes the move undertaken by the TA to clearly define the coverage of HKTI's exclusive franchise and to examine whether International Simple Resale (ISR) is consistent with HKTI's franchise.

48.    To protect public interests in HKTI's bilateral negotiations with overseas operators over accounting rates, the Consumer Council sees a need for closer liaison between Government and HKTI. In the event that OFTA finds the accounting rates negotiated not to be in the public interest of Hong Kong, OFTA should ask HKTI to explain.

Ensuring consumer welfare

49.    A more competitive market does not automatically guarantee to deliver all the benefits the consumer should enjoy, and regulatory safeguards will be needed to ensure a universal service of acceptable quality to all customers.

Achieving affordability and accessibility

50.    The study supports the Government's declared policy on universal service to enable consumers anywhere in the territory to receive basic and emergency services within a reasonable period of time. In view of rapid technological advances, the Consumer Council recommends that OFTA reviews and expands as necessary, the definition of services which can be regarded as basic. In particular, the needs of consumers for whom the telephone is a lifeline, should be given special consideration, as telephone services have become a major utility. This Council welcomes Government's move to set aside $50M to install telephone for families under the Comprehensive Social Security Assistance Scheme.(Note 8)

Ensuring quality for consumers

51.     While liberalisation of the fixed network provides consumer choice, the Consumer Council believes that certain regulatory measures and oversight will be necessary to enhance the quality of basic services. The Consumer Council welcomes the FTNS licence condition requiring FTNS operators to have a customer charter. The Consumer Council recommends that operators should be obliged to publish such a charter on a regular basis In addition, the Consumer Council recommends that OFTA reviews the operators' performance targets from a consumer perspective and formulates a standard reporting format for all operators. Automatic compensation schemes, and proper publicity for them, should be encouraged wherever possible.

Regulatory safeguards against anti-competitive practices

52.    The Consumer Council commends the competition provisions in the FTNS licences, setting out the ground rules for fair competition. Other telecommunications service operators, e.g. HKTI, have no similar provisions in their franchise/licences.

53.    The provisions are broad and liable to subjective determination by the TA. This is not dissimilar with the U.K. telecommunications regulator. In addition to being a regulator, the TA has taken on the role of arbiter on competition matters. As Hong Kong does not have an independent, general competition agency, the possibility remains that the regulator might be caught between having to enforce anti-competition provisions and preserving the well-being of the industry.

54.    As far as sanctions against breaches of the competitive provisions are concerned, the Consumer Council sees certain limitations in the provisions. For example, the current financial penalties (a maximum amount of $20,000 for the first occasion, $50,000 for the second occasion, and $100,000 for any subsequent occasion) are limited. The ultimate sanction - revocation of licence - may not be practicable.

55.     The Consumer Council recommendsthat competition provisions should also be applied to international service and other telecommunications service operators, and enshrined in the proposed comprehensive telecommunications legislation. The Council also recommends that the penalties for breaches of the competition provisions are set at levels where they act as an effective deterrent; and in appropriate circumstances, that third parties be given the right to seek redress for breach of these provisions.

56.    The study reveals the advantage to the TA, the telecommunications industry and third parties, in having a general competition agency in Hong Kong to complement and underpin the current industry-specific competition provisions. Justification for introducing such an agency will be examined in detail in the Council's main report on Competition Policy.

Policy development responsibilities

57.     Recognising the convergence of broadcasting, telecommunications and communication technology, the Consumer Council reaffirms its earlier recommendation for integration of policy development responsibility for these areas under a Secretary for Broadcasting, Telecommunications and Communications Technology.(Note 9)

58.     Under the proposal, the regulatory role of OFTA, headed by the TA should remain unchanged in order to implement the Government's telecommunications policy. At present, GIC makes regulations which OFTA then implements. It is important that OFTA retains responsibility for dealing with issues affecting the development of effective competition in the industry, e.g. interconnection arrangements, in the initial period of liberalisation.

59.    In order to keep abreast with technological advances and changing market structure, the Consumer Council sees the need for comprehensive telecommunications legislation providing clear guidance for market players. The Consumer Council recommends that the Government should, in its proposed comprehensive Telecommunications Ordinance, clearly define the TA's responsibilities and ensure that the TA has sufficient power to carry out its responsibilities. At present, the TA seeks representation from the industry and members of the public before making its determination on competition and technical matters and publishes its determination for public consumption. It is advisable to include such consultative procedures in the legislation and ensure TA's determinations are made available to the public.

60.    We note that OFTA has already set up advisory committees on specific issues. In line with general government administrative and legislative procedures and to provide checks and balances, the Consumer Council recommends that the Government consider setting up an Advisory Board to tender advice to TA on key telecommunications issues.

The Consumer Council believes that the Government's primary responsibility is to ensure a consistent, long term policy which fosters a fair, open, and progressive environment conducive to investment, competition and development in the telecommunications industry as well as providing an effective legislative and regulatory framework to facilitate the same. This is the best guarantee for consumers.

Fig. 1

Fig. 2

Notes :

  1. New FTNS operators and Public Mobile Radiotelephone Service (PMRS) operators account for 7% of international calls originated from Hong Kong, and call-back operators 5%.
  2. The price cap formula, which was imposed in August 1993, restricts increases in the residential line rental charge to the rate of inflation (CPI) - 3%, and CPI - 4% for local tariffs as a whole. The price caps only apply to HKTC, as the dominant provider, and will be subject to review in August 1996. Since 1993, international tariffs have been reduced by about 12%.
  3. The ADC charge of 35.8 cents has been effective since 1 October 1995, it represents a reduction of 9.2 cents from the previous 45 cents.
  4. Guidelines for Property Owners, Developers and Managers for the Provision of Facilities within Property Developments for Access to Public Telecommunications and Broadcasting Services, OFTA, May 1995.
  5. Space reserved for public utility usage in some commercial buildings has been excluded from calculation of the plot ratio.
  6. Section 36A of the Telecommunication Ordinance refers.
  7. Internet providers are legally defined as Public Non-Exclusive Telecommunications Service (PNETS) licensees.
  8. Arising from Financial Secretary's budget speech on 6th March 1996.
  9. See Consumer Council, "Ensuring Competition in the Dynamic Television Broadcasting Market", 20 January 1996.