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The Vanishing LATA: Pricing Chasms and Clashing Markets for Toll Service

Fortnightly Magazine - July 15 1996

characteristics as the markets merge. If U S WEST's prices remain attractive relative to AT&T's, customers will substitute MTS service from U S WEST for AT&T's service. And if AT&T's price level declines to match the U S WEST price, then customers will also increase their demand for what was strictly intraLATA toll service by U S WEST. Methods of modeling these effects are poorly developed; therefore, we do not model the demand impacts on one carrier due to another's price changes.

Table 3 compares the low- and high-demand elasticity change cases to the base case. In the base case, AT&T's average rate (18.7¢) exceeds the U S WEST rate (13.5¢) by about 40 percent. In both change cases, we lower AT&T's prices to those of U S WEST and, in turn, estimate the change in AT&T's toll revenues. Whether AT&T's revenues rise or fall depends on the own-price elasticity of demand. Since AT&T's increased toll demand produced higher demand for carrier access, U S WEST will benefit from AT&T's price decline regardless of the demand elasticity, because of higher CAC revenues.5

(Of course, one can question these results, given that cross-price elasticities are ignored. One could also argue that AT&T's price declines would make AT&T more attractive and entice some

customers to leave U S WEST. Since we do not permit AT&T's prices to decline below those for U S WEST, and assume away creative marketing instruments, customers would only shift to AT&T if they perceived AT&T's product as a better deal. We also assume that customers are informed (em a stretch of imagination in this industry.)

We lowered AT&T's relatively high MTS toll prices down to the price levels for U S WEST for several reasons. First, U S WEST has asserted (rightly or wrongly) that its residential access rates are cross-subsidized by toll rates. In other words, assuming that U S WEST remains price regulated, eliminating the subsidy would require U S WEST to reduce its toll rates and increase its residential local rates. We assume that U S WEST would not exacerbate the alleged cross-subsidy by now increasing toll rates (unless, of course, it has market power and pays to do so). That is, U S WEST should not seek to increase MTS prices, given its past cross-subsidy allegations.

Toward a New Equilibrium

Pressure to lower toll prices will emerge from interstate price competition. One such source: Sprint's simple and understandable "Dime-a-Minute" rate. When the LATA boundary lifts, Sprint's rate will exert a magnetic effect. Sprint's 10¢ rate is about 35 percent below the average MTS rate for U S WEST, and even though this rate does not apply to daytime calling, we suspect its effect will eventually apply to all time periods.

Further, we suspect that technological change may eventually render a 10¢ rate conservative. Although in its infancy, technology permits the use of the Internet for voice communication, and Internet access can be purchased at rates as low as 3¢ per minute.

Finally, other opportunities may present themselves via creatively packaged services. A customer whose separate