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Thursday, April 27, 2017

Building blocks of Jio's predatory pricing analysis

by Smriti Parsheera.

In a recent post on predatory pricing and the telecom sector Ajay Shah questions whether the subsidised user base of Reliance Jio can set off a network effect. The post makes two claims. The explicit claim is that the combined effect of interconnection regulation; mobile number portability and open standards of TCP/IP ensures that there are no real network effects in the telecom sector. The underlying implicit claim is that the existence of network effects is central to a predatory pricing analysis in this context. This piece takes a closer look at both these claims and the other factors that should inform the Competition Commission of India (CCI)'s analysis in the complaint filed by Airtel against Jio's pricing practices.

Network effects in telecom

Modern day tariff plans, including that of Jio, comprise of three main components - voice, data and access to content - all bundled into one product. A competition law analysis of Jio's pricing strategy must focus on each of these segments individually, and then their collective effect.

Voice services: Telecommunication services are known to generate strong network effects - the value of having a phone number is linked to the number of people who can be called using it. This creates a classic case for concentration of market power in the hands of the incumbent. Telecom regulators have overcome this issue by mandating operators to link their networks with the networks of other operators, allowing users to communicate across networks. Research on telecom networks, however, finds that despite interoperability, users tend to display a preference for being on a larger network, particularly when operators offer lower tariffs for calls made within their networks (on-net/off-net price differentiation). Others suggest that the network effects in telecom are more 'local' in nature - the preference to be on the same network as one's family and friends leads to the formation of calling clubs. This is not necessarily dependent on the overall size of the network.

In summary, even with mandated interconnection norms, traditional telecom services display a certain level of network effects. Arguably, the relevance of being "on the same network" would have gone down with the convergence of voice and data services and availability of various over-the-top calling apps. This requires a deeper study of consumer behaviour and preferences in the post-data world.

Internet services: Network effects on the Internet are not about the provision of Internet access services (i.e. the data services offered by ISPs) but rather about the direct and indirect network effects that define the business models of many Internet-based platforms and businesses.

Telecom service providers are increasingly stepping into the role of Internet platforms by bundling access to online music, TV, movies and news along with their communication services. In Jio's case, every new SIM comes bundled with a bouquet of Jio-branded apps, making it one of the fastest growing content aggregators in the country. Its free offer period from September to March has helped Jio build a massive user base, which in turn helps in attracting other complementary users to its platform. For instance, Uber's recent decision to partner with Jio Money reflects the value that it sees in being able to access Jio's users. The same holds true for other merchants and suppliers, like providers of music, video and news content, who are attracted to platforms with a large number of users.

Integration of data services and content

The vertical integration of data services and content offers Jio many advantages. One, convenient access to free content along with free/discounted data services has helped Jio in promoting higher consumption patterns. The aggressive data usage on Jio's network, particularly of video content, will gradually translate into higher revenues. The company claims that its users "consume nearly as much mobile data as the entire United States of America...and nearly 50% more mobile data than all of China." It would be interesting to see what percentage of this data is being consumed within the Jio ecosystem and the change in consumption patterns after Jio starting charging for its data services.

Two, it promotes faster adoption of in-house services. To take an example, the AT&T/FaceTime case study in the United States found that less than 10 percent of iPhone users downloaded Skype while all of them had automatic access to Apple's FaceTime. Adoption of Jio Money versus rival payment apps (among Jio subscribers) is likely to show similar results. Reports about the launch of Jio's 4G feature phone with built-in Jio apps suggest the possibility of further entrenchment of new users in the Jio universe.

Can Jio's pricing strategy in telecom enable it to indulge in monopolistic behaviour in related markets like mobile payments? Unlike telecom services, the payments sector continues to suffer from the lack of interoperability among providers, leading to significant network effects. Safaricom's M-Pesa service in Kenya offers an example of how the company was able to leverage massive network effects in the mobile-money space to establish its dominance in calls and text messages. The situation in India is certainly different - we have higher levels of competition, both in telecom as well as online payments. Yet, the Kenyan example is a helpful reminder of the extent to which cross-linkages between bundled products can influence their adoption and usage, to the exclusion of other competitors.

Jio's dual role as a telecom provider and platform offering access to online content makes it difficult to outright dismiss the role of any network effects. Moreover, any subsequent recoupment of the losses suffered by Jio in its early days need not necessarily be through a significant markup in data tariffs. Increase in volume of data consumption, future monetisation of Jio apps and opportunities for utilisation of data collected from users, are all factors that must be considered.

The tests of predatory pricing

The law and jurisprudence on predatory pricing defines it as below cost pricing by a dominant firm, with a view to exclude competitors. Sustained discounting practices in a market with strong network effects certainly raises a red flag due to the tendency of a single network to dominate the market. In such a scenario, there is a strong likelihood of recoupment after other competitors have left the market and structural barriers deter the entry of new players. The determination of predatory pricing, however, does not hinge on the existence of these network effects.

When Jio first launched its services in September, 2016 it was a fresh entrant in a market with several established players. Its price point of zero was certainly below cost but there was no question of it being a "dominant player". Any regulatory intervention to stop the pricing plans at that stage, whether by the sectoral regulator TRAI or the CCI, would have been premature.

This position has come to change over the last few months. Jio has managed to acquire a sizable presence in the market for high-speed data services - it holds about one-third of the country's broadband subscriber base and about 85 percent of the market in terms of mobile data traffic. Its share in the overall market for telecom services (voice plus data) still remains small since telecom subscribers continue to outnumber Internet users by a wide margin. The manner in which CCI delienates the "relevant market" will therefore form the crux of its analysis in this case.

Accordingly, the first step for CCI would be to determine whether there is a market for data services that is distinct from the broader cellular services market? This will hinge on a factual analysis of whether users regard voice, data and high-speed data services as being interchangeable in terms of their end-use and characteristics, based on a number of factors. One, voice calls can be made using the Internet but the reverse is not true - this indicates a one-way substitutability between the services. Two, there are some differences in the utility of 2G and 4G networks based on the applications that they are able to support. Three, CCI will need to collect data on Jio's usage patterns, that of its competitors and the switching behaviour of consumers. Four, supply-side constraints (like spectrum holdings) that can make it difficult for providers to switch from one type of service to another will also need to be considered.

In the second stage, CCI will need to examine whether Jio can be regarded as being dominant player in the identified market. Besides looking at its market share, in terms of subscriber base and usage volumes, this analysis must also consider the various other factors that have been given under the Competition Act, 2002. These include:

  1. Size and resources of Jio and its competitors - Telecom being a capital-intensive industry has many big players. Each of them has access to significant capital resources, although there may be differences in the extent to which these firms have been leveraged.
  2. Vertical integration of the enterprise - As discussed above, the bundling of voice, data and content offers Jio certain clear advantages. Other players are also offering similar bundles but not necessarily at the same scale. In many cases, the prices and bundles offered by other players have come about as a response to Jio's entry strategy.
  3. Entry barriers - Telecom is a heavily regulated sector and there are entry barriers, both in terms of licensing requirements and the availability and price of spectrum.
  4. Relative advantage through contribution to economic development - The arrival of Jio's 4G LTE network, with its aggressive pricing strategy, could also have some pro-competitive effects. Arguably, it has nudged the telecom market towards greater price competition, resulting in lower tariffs. Over time, this could also push other operators towards faster upgradation of technology.

Assuming that CCI's analysis leads it to delineate a separate broadband market (and Jio is found to be dominant in it), the third challenge would be to assess whether its current prices are in fact "below cost". This again will require data on the costs incurred by Jio for delivering its voice and data services and the free apps that are on offer. Finally, CCI will have to determine whether Jio's current pricing continues to be in the nature of a genuine "promotional strategy" by a new entrant or is it a deliberate attempt to reduce competition in the market.

Many have linked the consolidation that we are seeing in the market today with Jio's entry strategy. One one hand, consolidation reduces the number of players, hence reducing competition. On the other, it might be a sign of the sector's movement towards a more mature market with fewer players who are able to focus better on infrastructure expansion and quality of services. CCI will need to weigh in all these factors while examining the impact of Jio's prices on consumer interests, competition in the market and overall economic development.

These are all complex questions, with no obvious answers. The solution lies in a multi-stage, data-driven analysis of predation that should be rooted in an understanding of competition policy and telecom economics. Co-operation and knowledge-sharing between CCI and TRAI is key to finding these solutions.


Smriti Parsheera is a researcher at the National Institute of Public Finance & Policy. The author would like to thank Amba Kak, Kaushik Krishnan and Faiza Rahman for useful discussions.

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