Mobile Termination, Network Externalities and Consumer Expectations

Sjaak Hurkens and Angel L. Lopez

Abstract: We re-examine the literature on mobile termination in the presence of network externalities. Externalities arise when firms discriminate between on- and off-net calls or when subscription demand is elastic. This literature predicts that profit decreases and consumer surplus increases when termination charges increase. This is puzzling since in reality regulators are pushing termination rates down while being opposed to do so by network operators. This puzzle is resolved when consumers' expectations are assumed passive but required to be fulfilled in equilibrium (as defined by Katz and Shapiro, AER 1985), instead of being responsive to non-equilibrium prices, as assumed until now.

Keywords: Termination charge, Networks, Interconnection, Regulation, Telecommunications

Classification Numbers: D4, K23, L51, L96.

Economic Journal 124 (september): 1005-1039 (2014)