Cable & Wireless Jamaica s Price Cap Plan

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1 Office of Uiliies Regulaion Cable & Wireless Jamaica s Price Cap Plan Deerminaion Noice 2001 Augus 1

2 Absrac Cable and Wireless Jamaica (C&WJ) has radiionally been regulaed under a rae of reurn regime. Subsequen o he passing of he Telecommunicaions Ac 2000 ( he Ac ), Secions 46 and 81 of he Ac provide for he exising carrier, C&WJ, o be regulaed under a Price Cap regime as of March The Ac furher mandaes ha he Office of Uiliies Regulaion (OUR) shall esablish rules for he imposiion, monioring and enforcemen of Price Caps. The OUR, pursuan o hese sipulaions, and have published Noice of Proposed Rulemaking (NPRM) documens on he general and specific rules for he price cap regime. The general and specific rules ouline he principles and procedures governing he esablishmen of price caps. This deerminaion noice oulines he specifics of he price cap plan for C&WJ ha will be effecive as of 1 Sepember

3 TABLE OF CONTENTS CHAPTER 1. INTRODUCTION... 4 CHAPTER 2. PRICE CAP PERIOD... 5 CHAPTER 3. CLASSIFICATION OF SERVICES UNDER PRICE CAP REGULATION... 6 UNREGULATED SERVICES BASKET... 6 FIXED TO MOBILE SERVICE BASKET... 6 INTERCONNECTION SERVICE BASKET... 7 BASIC SERVICES BASKET... 7 INTERNATIONAL INCOMING CALLING SERVICES... 7 CHAPTER 4. PRICE CAP FORMULAE... 8 PCI FORMULA... 9 API FORMULA HEADROOM CHAPTER 5. ECONOMIC MODEL FOR JAMAICA PRICE CAP REGULATION ANALYSIS OF INITIAL PCI AND X FACTOR PROMOTIONAL DISCOUNTS RATE REBALANCING OPPORTUNITY TO RECOVER THE COST OF CAPITAL CHAPTER 6. IMPUTATION TESTS ANNEX 1: CLASSIFICATION & REGULATION OF C&WJ SERVICES DURING PRICE CAP PERIOD

4 CHAPTER 1. INTRODUCTION 1.0 Secions 46 and 81 of he Telecommunicaions Ac 2000 provide for he exising carrier, Cable & Wireless Jamaica (C&WJ), o be regulaed under a Price Cap regime as of March The Ac furher mandaes ha he Office shall esablish rules for he imposiion, monioring and enforcemen of Price Caps. In keeping wih he laer requiremen, he Office has published Noice of Proposed Rule Making documens seeking he commens from ineresed paries on boh he General and Specific Rules o be applied in respec of Price Cap Regulaion. Commens on hese rules were received from a number of ineresed paries including C&WJ, Digicel which is a new enran in he mobile marke and he Fair Trading Commission. The Office has subsequenly amended he proposed rules o reflec he various commens and hey have now been passed o he Miniser of Indusry, Commerce and Technology in order o have hem brough o Parliamen for affirmaive resoluion. 1.1 The General and Specific Rules ouline he principles and procedures governing he esablishmen of Price Caps. As par of he discussions surrounding he General and Specific Rules, he Office has also had exensive consulaion, paricularly wih C&WJ, on he specifics of he Price Cap regime ha will apply as of Sepember 1, This Deerminaion now ses ou hese specifics. In paricular, i addresses he following: The duraion of his iniial price cap period; The formulae for he Acual Price Index ( API ) and he Price Cap Index ( PCI ); Mehods and model for esimaing he value of he X Facor in he PCI; The measures aken in he Office s financial analysis o provide C&WJ wih he opporuniy o earn a normal reurn on is invesmen; The classificaion of C&WJ s services and heir reamen during he price cap period; and he iniial reamen of impuaion ess and he ime able for applicaion of such es o C&WJ. 1.2 C&WJ is hereafer required o ake such seps as are necessary o ensure ha i is in compliance wih he requiremens of he General and Specific Rules and his Deerminaion Noice once he Price Cap mechanism goes ino effec on Sepember 1. The Office is also issuing a descripion of he Model along wih his documen. 4

5 CHAPTER 2. PRICE CAP PERIOD 2.0. In arriving a is decision regarding he appropriae duraion for he iniial Price Cap regime, he Office weighed he risk of mis-specificaion of parameer values in he regime versus he efficiency gains associaed wih a longer iniial period. Noe was aken of he fac ha he more frequenly he Price Cap plan is renegoiaed, he less he incenive for efficiency given he likelihood ha he regulaed eniy will be asked o reurn produciviy gains o consumers a he beginning of each new regime. Addiionally, a longer Price Cap period would provide he Office wih more daa poins and beer informaion in seing fuure regimes. A he same ime, in a rapidly changing environmen wih very few daa poins for seing he iniial regime, here is a greaer risk of esablishing a model ha is sub-opimal. This means ha in such siuaions a shorer iniial period is perhaps desirable The issue of a pure versus a hybrid Price Cap model where here are consrains on profis and losses was also given consideraion. A hybrid model is ofen adoped o reduce he adverse effecs if i urns ou ha sub-opimal parameers are seleced. Hybrid models reduce he incenives for efficiency, however as hey force he regulaed eniy o pass on produciviy gains over and beyond hose anicipaed in he model. In an effor o ensure ha an opimal plan is seleced, he Office has also examined resuls from Price Cap plans in oher jurisdicions. I has also sough o anicipae changes in he regulaory environmen during he period of he plan; hese include movemens in selemen raes 1 and loss of marke share o compeiors. Deerminaion 2.1 The Office has deermined ha an iniial price cap period of 4 years, beginning 1 Sepember 2001 hrough 31 Augus 2005, bes srikes he appropriae balance in respec of he duraion of he Cap. This period of ime will provide C&WJ, consumers and he Office wih adequae opporuniy for he benefis of price regulaion o be fel and analysed. A he end of he 4-year period, he Office will make adjusmens in he even ha i finds ha parameers of he price cap plan are sub-opimal. The Office has also deermined ha o maximise he incenive for efficiency during he period of he Cap, a pure Price Cap Model is suiable for Jamaica. 1 The selemen rae is he amoun o be paid by one operaor o anoher for an inernaional call o be erminaed. The selemen raes are usually equal in each direcion of he inernaional roue. 5

6 CHAPTER 3. CLASSIFICATION OF SERVICES UNDER PRICE CAP REGULATION 3.0. The Office akes he view ha all of he services provided by C&WJ poenially fall wihin he Price Cap Regime. The Office has assigned services o differen baskes which are accorded differen reamen. These baskes are Unregulaed services, Fixed-o-Mobile services; Inerconnecion Services and Basic Services. These classificaions are illusraed in he able a Annex 1 o his Noice. Unregulaed Services Baske 3.1. The unregulaed services baske consiss of hose services ha he Office has aken a decision o exclude from Price Cap regulaion. As provided for a 1.2 and 1.5 of he Specific Rules he Office may exclude a service from Price Cap regulaion if i deermines ha ha service faces effecive compeiion or alernaely ha effecive compeiion is deemed o be imminen or if he Office deems ha here are subsanial public benefis o be derived from such exclusion. Deerminaion 3.1 On he basis of one or more of he above crieria, he Office has deermined ha he following services are iniially excluded from Price Cap regulaion: Mobile Services (reail mobile access and usage, mobile sale o resellers, ec) 1, erminal equipmen (handses, PBX, answering machines, ec) 2, Inerne Service provision 3. Fixed o Mobile Service Baske 3.2. The fixed o mobile service baske consiss of he reailing of fixed line service o mobile providers. Alhough his service is provided for in he Inerconnecion Agreemen, he Office has included i in a separae baske wih is own Price Cap for adminisraive convenience. Deerminaion 3.2 Fixed-o-mobile reail communicaions shall consiue a separae baske for Price Cap regulaion. The charges for his service shall be subjec o a cap equal o he sum of he cos-oriened raes deermined in he Reference Inerconnec Order ( RIO ) process for mobile erminaion and reail fixed nework originaion. This cap will be permied o increase by any increases in hose raes i.e. C&WJ shall be eniled o auomaically pass hrough any such increase. 1 One compeior has already begun operaion in he marke (Digicel) and a second, (Cenennial Digial Jamaica) has indicaed is inenion o sar operaion by he end of he year. 2 The marke for hese services, excep for PBX, was liberalised from as early as 1995 afer inervenion by he Fair Trading Commission. 3 This marke is subsanially liberalised wih a number of eniies providing compeiion o C&WJ eiher by leasing faciliies from he Company or via heir own VSAT faciliies. 6

7 Inerconnecion Service Baske 3.3. This baske consiues services ha are provided as par of he Reference Inerconnecion Offer (RIO) process and are consequenly no subjec o he Price Cap Index. The ariffs for hese services are herefore concluded as par of inerconnecion arrangemens approved by he Office or oherwise agreed beween paries. Deerminaion 3.3 Services wih he excepion of hose wihin he Fixed-o-Mobile baske and wholesale basic services for which ariffs are decided as par of an inerconnecion agreemen shall no be subjec o he Price Cap Index. Basic Services Baske 3.4. All services currenly provided by C&WJ and no included in any of he hree aforemenioned baskes are included as par of he Basic Baske. The raes and quaniies for hese services will be incorporaed ino he calculaion of he API a each price change and will be subjec o he cap of he PCI. Services wihin he Basic Baske will be subjec o specific price conrol o mee he requiremens of rebalancing. Alhough he raes for some wholesale basic services are concluded as par of he RIO process, hese services are included as par of he Basic Baske and heir wholesale rae elemens are reaed as disinc from heir respecive reail offerings. Deerminaion 3.4 All services currenly provided by C&WJ and no a par of any oher baske shall be included in he Basic Baske. The raes and quaniies for hese services shall be used o calculae he API for each price change and each rae change shall be subjec o he PCI. Basic wholesale services shall consiue disinc rae elemens. Inernaional Incoming Calling Services 3.5. Incoming inernaional calls currenly represen C&WJ s mos profiable area of aciviy. Addiionally, C&WJ will reain a monopoly in his area for he firs eigheen monhs of he Cap. The paymen for inernaional calls is no, however represened as rae elemens in he Price Cap. Revenue from his aciviy has, however, been aken accoun of in compuing he X facor. 7

8 CHAPTER 4. PRICE CAP FORMULAE 4.0. The formulae needed for he Price Cap Plan were no included in he General and Specific Price Cap Rules. These formulae are known as he Price Cap Index ( PCI ) and Acual Price Index ( API ) mechanisms. The PCI is an index calculaed annually based on measures of economy-wide inflaion in Jamaica and esimaes of he company s own produciviy. Deerminaion 4.1 The API shall be he calculaion of he acual weighed price level of C&WJ s prices a a given momen. The API is adjused wih each price change and mus remain less han or equal o he PCI for C&WJ o remain in compliance wih he Price Cap regulaion The PCI will also consider he qualiy of services provided by C&WJ as well as he impac of changes in inernaional selemen raes ha are beyond C&WJ s conrol. Under Price Cap regulaion, he incenives o reduce coss could resul in a reducion in qualiy of service. The service qualiy provision enables he Office o exer is auhoriy o influence he qualiy of service o cusomers by providing C&WJ wih posiive incenives o mainain high sandards. Deerminaion 4.2 A provision for a service qualiy adjusmen shall be included in he Price Cap formula o provide a poenial means by which he Office may offse any decline in he Company s qualiy of service C&WJ argued ha i should be able o demonsrae compliance periodically, i.e., a he end of a Price Cap year. C&WJ argued ha compliance should simply require showing ha is prices hroughou he year were, on average, wihin he Price Cap consrains. The Office rejecs his approach because i would permi C&WJ o price above he Cap for much of he year and, near he end of he year, lower raes in order o comply for a shor period of ime. Deerminaion 4.3 C&WJ shall be required o demonsrae ha each and every price change for services covered by price cap regulaion resuls in he API remaining less han or equal o he PCI The PCI and API formulae allow for C&WJ o carry over unused headroom o he nex year. Tha is, if C&WJ prices is services so ha he API remains below he PCI hroughou a paricular year, C&WJ is no penalized for pricing below he cap and may ake advanage of any unused porion of he cap in fuure price cap years. This means ha he headroom for he nex year will be compued as if C&WJ was pricing a PCI in he prior year. If C&WJ prices below he cap in a given year, C&WJ is no 8

9 permied o price above he new PCI in he following year. The new PCI already incorporaes he prior year s headroom. Deerminaion 4.4 The Price Cap formulae shall allow C&WJ o carry over unuilised headroom from one year o he nex. Headroom shall no, however, be compued in such a way as o allow C&WJ o price above he API in any year. PCI Formula 4.4 To begin a price cap period, he iniial PCI level will be se by he Office. The Office is seing his iniial level, PCI 1, based on is economic analysis. Deerminaion 4.5 The PCI for he firs year of he Cap shall be se by he Office based on is economic analysis. See Deerminaion 5.1. Deerminaion 4.6 For every year afer he iniial year, he PCI shall be calculaed each Sepember 1, beginning Sepember 1, 2002, hrough Sepember 1, 2004, according o he following formula: PI PCI = PCI ( X Q + Z ) = 2,3,4 (4.1) where 1 PI 1 PI = he Jamaican consumer price index ( CPI ) in year. PI is calculaed as he simple average of he monhly CPIs for he 12 consecuive monhs ending 31 May in year 2001+; X = a consan o be deermined by he Office; (See Deerminaion 5.2 ) Q = he qualiy-of-service adjusmen facor in year ; Z = he exogenous adjusmen facor for inernaional selemen raes in year. Deerminaion 4.7 The qualiy-of-service adjusmen facor will iniially be se equal o zero. I may be se equal o a posiive number in he fuure if he qualiy of C&WJ s service declines and becomes unsaisfacory. The Q facor will be changed only as a las resor and only afer compleion of a public consulaion process. 9

10 Deerminaion 4.8 The exogenous adjusmen facor will be zero in year 1. PCI 1 is se by he Office so as no o require an adjusmen year 1. In subsequen years, he exogenous adjusmen facor is calculaed as follows: m m m m m m q 1 Σmq 1( b 1 b ) ( a 1 a ) m q Ζ = V r 1 = 2,3,4 (4.2) where The summaion is aken over all inernaional selemen rae elemens m for he various roues; V = a consan deermined by he Office; m b = he value of inernaional selemen rae m a he beginning of he fiscal year ha ends 31 March in he year ; r -1 = revenues from he prior fiscal year for he all he price-cap rae elemens; and m a = paymens o mobile operaors (including C&WJ Mobile) for erminaion of incoming inernaional calls The quaniies, q m, in Equaion (4.2) of Deerminaion 4.8 above are minues of incoming inernaional raffic. The revenues apply o price-cap services, which exclude inernaional selemens. 10

11 API Formula Deerminaion 4.9 Beginning on 1 Sepember 2002 hrough 1 Sepember 2004, he API will be calculaed as follows: API API where i i 7 Σi q 1 p (1 H 1) = 12 = 2 (4.3) r 1 i i 7 5 Σi q 1 p(1 H 1 H ˆ 2) = = 3,4 (4.4) r 1 The summaion is aken over all price-cap rae elemens i (excluding inernaional selemen raes). q = quaniy demanded of price-cap rae elemen i in prior fiscal year; i 1 i p = curren price for price-cap rae elemen i in curren price cap year. Where here is a proposed price change, he proposed price should be used. For services which prices are no changing, he exising prices should be used; Headroom Deerminaion 4.10 H = he average headroom during he monhs of Sepember hrough March of price cap year. The average is weighed by he fracion of days (during he seven-monh period) in which a paricular headroom applied; and H ˆ = he average headroom during he monhs of April hrough Augus of price-cap year. The average is weighed by he fracion of days (during he five-monh period) in which paricular headroom applies. Headroom is calculaed as follows: H PCI API = (4.5) PCI where H = headroom a any paricular ime during price-cap year. 11

12 4.6. The purpose of he headroom adjusmen is o avoid penalizing C&WJ for pricing below he cap. If C&WJ does price below he cap, is revenues would likely be reduced and would (wihou an adjusmen) raise he acual price index he subsequen year. Separae adjusmens are required for Sepember hrough March and for April hrough Augus. Pricing below he cap in Sepember hrough March affecs revenues in he denominaor of he API formula for he following price-cap year. Pricing below he cap in April hrough Augus affecs revenues in he denominaor of he API formula for he price-cap year wo years ahead. 4 Deerminaion 4.11 For each price-cap filing, C&WJ mus calculae, no only he API, bu also he headroom associaed wih is proposed raes. Headroom mus always be posiive. Deerminaion 4.12 On Sepember 1, 2001 C&WJ mus file, a spreadshee conaining he specific daa for every price-cap rae elemen and calculaions of he API. The API calculaions will be updaed wih each price change. The PCI will be updaed annually, as described above. Deerminaion 4.13 Annually, beginning Sepember 1, 2002, C&WJ will calculae he value of he exogenous adjusmen facor according o Equaion. (4.2). C&WJ shall file a spreadshee ha conains he calculaions for every selemen rae elemen. C&WJ shall furher provide on 1 Sepember each year, he new PCI, according o Equaion (4.1) in deerminaion 4.6 for years 2 hrough 4 of he price cap period The price cap regime includes addiional consrains on sandard residenial and lowuser raes for insallaion and line renal. These specific consrains are discussed in greaer deail in Chaper 5. 4 While quaniy and revenue weighs are mahemaically equivalen, he Office will employ quaniy weighs in he API formulae. Quaniy weighs have he advanage of usabiliy when he prior year s demand for a rae elemen is zero. Revenue weighs are no usable in ha insance. 12

13 CHAPTER 5. ECONOMIC MODEL FOR JAMAICA PRICE CAP REGULATION 5.0. The Office is seing he X Facor for he Price Cap regime so ha C&WJ will have an opporuniy o earn is cos of capial over he 4-year Price Cap period. Toward ha objecive, he Office considered a number of facors such as he fuure decreases in inernaional selemen raes and he need for rae rebalancing. In order o examine he various facors involved, he Office developed an economic model and reviewed models submied by C&WJ and aemped o reconcile hese analyses The Office has analysed a number of approaches for economic analysis of he effecs of various Price Cap parameers. Consideraion was given o such daa conained in C&WJ s models and formulae. C&WJ was unable o provide on a imely basis much of he daa ha he Office sough for use in developing he price cap plan. Consequenly, he Office has had o subsiue is exper judgemen in some insances in place of he acual daa. In addiion o considering he daa and models pu forh by C&WJ, he Office eleced o consruc is own model o examine he effecs of price cap regulaion and o se various parameers o he formulae. The Office benefis from he developmen of his ool by being able o examine he effecs of various assumpions and proposed policies, and o examine a variey of means o mee is public policy objecives. The Office s model serves as a check on C&WJ s analysis, as well as provides furher informaion for he Office in is decision-making role The Office, along wih is consulans, SPR, have developed a model ha is used o projec C&WJ s coss and prices under Price Cap regulaion for he 4-year Price Cap period. The model, he Jamaica Price Cap Model, serves a number of purposes associaed wih he move o price regulaion in Jamaica. The Jamaica Price Cap Model calculaes C&WJ s annual increase in produciviy of is operaions, providing a basis for he X Facor in he PCI formula above. Furher, he Jamaica Price Cap Model provides a financial analysis for use in evaluaing alernaive rebalancing plans The Model incorporaes wo major consrains on pricing: he Price Cap Index consrain and he zero-profi consrain, in which oal coss are equal o oal revenues. Toal coss include he cos of capial. The pre-ax rae of reurn is a userspecified model parameer ha he Office has se a C&WJ s cos of capial as calculaed by Charles River Associaes (for he Office), wih some adjusmens. The Model employs he nominal cos of capial less he rae a which C&WJ revalues is asses upward each year. This adjusmen o he cos of capial ensures ha C&WJ is no compensaed wice for he effecs of inflaion. A deailed Model Descripion is available from he Office for furher informaion. Analysis of Iniial PCI and X Facor 5.4. The Office considered he Price Cap sudy using he uni cos model conduced by C&WJ s consulans, Price Waerhouse Coopers, he oal facor produciviy model 13

14 (TFP) and zero-profi consrain model. All hree mehods are heoreically equivalen, under cerain assumpions. The Office has examined hese mehods, as well as C&WJ s resuls from is uni-cos model. The Office s Jamaica Price Cap Model is based on he zero-profi consrain mehodology The nex alernaive o ha used by he Office is he uni-cos model for esimaing he company s produciviy. The uni-cos model is more favourable han TFP in ha he daa requiremens are no as severe. In fac, he daa requiremens are aligned wih he company s accouning sysem. The Office, however, finds ha he uni-cos mehod is less suiable for examining wheher he company has he opporuniy o earn is cos of capial. Furher, accouning for efficiency only as i perains o changes in coss from year o year may lead o incorrec esimaes of he company s produciviy gains. The uni-cos model canno easily deal wih oher sources of efficiency gains such as changes in inernaional selemen raes, exogenous adjusmens, he need o rebalance, and year-o-year changes in quaniy weighs of he price cap plan. The Office s Model does accoun for such impacs on C&WJ s profiabiliy The Office examined C&WJ s own calculaions of is produciviy growh. C&WJ chose he uni-cos model and made subsequen adjusmens o he resulan X Facor o accoun for he zero-profi consrain. C&WJ relied on is accouning sysems o apporion he coss among services ha are o be included in he price cap. C&WJ projeced changes in uni coss based on projeced demand growh. This change in uni coss is C&WJ s basis for he X Facor. C&WJ esimae ha he projeced annual average change in real uni capial coss is a decrease of 1.8 percen over he price cap period. C&WJ furher esimaed ha he average annual change in he operaing coss over he price cap period is a decrease of 3.6 percen. Furher, C&WJ esimaed he average annual change in uni coss for boh capial coss and operaing expenses, along wih consideraions for growh in demand over he price cap period. The resulan change in real uni coss for C&WJ, according o is model, is an average annual decrease of 2.1 percen. C&WJ assers ha is analysis implies an X Facor equal o C&WJ assered ha he X Facor had o be adjused in he insance ha he iniial raes under he price Cap plan would no yield revenues o cover is cos of capial. C&WJ recommended wo alernaives o is X Facor calculaion: (1) adjus ariffs prior o he sar of he Price Cap period o a level a which C&WJ covers is cos of capial; or (2) spread he adjusmen of ariffs over he Price Cap period and reduce he X Facor accordingly. C&WJ also included in is calculaions he effecs of discouns, packages and promoions o be offered over he Price Cap period C&WJ assers ha if inerim rae rebalancing occurs so ha C&WJ covers is cos of capial, hen he X facor decreases by 3.95 percenage poins, implying an X Facor of Alernaively, C&WJ assers ha wihou rae rebalancing, he X Facor should decrease by 7.6 percenage poins, implying an X Facor of In all, C&WJ has presened a number of alernaives o he X Facor depending on on how rae rebalancing occurs. For each scenario of rae rebalancing, C&WJ has calculaed he X Facor wih consideraion of compensaion for reducions in inernaional selemens, and iniial raes being se o recover he cos of capial. The range of X 14

15 Facors wih inerim rae rebalancing is from 2.1 percen o 5.9 percen. The range of C&WJ s calculaed X Facors in he insance of no inerim rae rebalancing before Sepember 1,2001, is from 2.1 percen o 13.9 percen The Office does no agree wih C&WJ s calculaions of proposed X Facors, including he asse valuaion by C&WJ, he cos of capial used, and he inclusion of promoions and discouns by C&WJ. In is analysis, he Office has found ha correcing for differences in asse valuaion and cos of capial alone more han fully explain he differences in he derived price cap parameers beween he calculaions by he Office and C&WJ. Promoional Discouns The Office has carefully considered C&WJ s proposal ha promoional discouns on price-cap services be considered price decreases for purposes of deermining compliance wih he price cap. We undersand ha such discouns may be a sound way for C&WJ o ameliorae compeiive losses. Furhermore, if a service coninues o cover is coss, even a he discouned price level, he pricing would no be anicompeiive. Neverheless, he Office knows of no pracical way o implemen C&WJ s proposal, while proecing cusomers agains unreasonable price discriminaion. The Office herefore coninues o adhere o is policy ha only non-discriminaory decreases in price-cap rae elemens be considered price decreases for purposes of price caps. A he same ime, he Office seeks o faciliae he offering of promoional discouns by C&WJ. In paricular, such offerings may be made wihou any specific regulaory approval. C&WJ may choose o designae promoional offerings o be eiher new non-basic services or new basic services. If he laer, he iniial discouns would no be considered price decreases for purposes of deermining compliance wih he price cap bu subsequen reducions would be (as provided in he formulae for acual-price indices). The Office is also aware ha as compeiion inensifies, some exising and poenial cusomers are likely o ake heir cusom o C&WJ s compeiors. In deermining he iniial price-cap index and he X facor, he Office ook accoun of he likely effec of his loss of marke share on C&WJ s profis. This effec was esimaed on he assumpion ha C&WJ does no offer any discouns oher han non-discriminaory reducions of price-cap raes. Deerminaion 5.1 Afer careful consideraion of he C&WJ Model, as well as is own Model and oher salien informaion, he Office deermines ha PCI 1 shall be equal o In he firs year of he Price Cap period, 1 Sepember 2001 hrough 31 Augus 2002, C&WJ may change prices of services subjec o he PCI consrain so ha he API 1 remains less han or equal o These iniial levels consider C&WJ s abiliy o recover is cos 15

16 of capial over he 4-year Price Cap period, including consideraion of iniial raes and a rae rebalancing plan o mee ha objecive. Deerminaion 5.2 The X Facor shall be equal o 0.06 (6 percen) for he remaining 3 years of he Price Cap period. Included in his is 0.01 (1 percen) for anicipaed gains over and beyond he hisorical rend. This is predicaed on he assumpion ha he move from a monopoly o a compeiive marke over he period of he Cap should generae greaer efficiency. Rae Rebalancing Wih regard o rae rebalancing, in February 2001 he Office had requesed from C&WJ a proposal for rae rebalancing. C&WJ submied a a lae dae (June 25, 2001) an Inerim Rae Proposal This proposal is merely a plan for selecive rae increases and was based on accouning daa and asse valuaion ha he Office had already indicaed ha i had srong reservaions. Furher, C&WJ did no propose any reducion in inernaional raffic raes o correspond wih reducions in selemen raes. C&WJ s proposal also relied upon a nominal cos of capial wih an asse base ha already incorporaes inflaion, hereby doubling he benefis of inflaion in C&WJ s calculaions. Deerminaion 5.3 Using he Jamaica Price Cap Model, he Office has developed a schedule for annual increases in he caps for line renal and insallaion charges for sandard residenial, low-user residenial, and business. The caps for hese services for he firs price cap year beginning in 1 Sepember 2001 are as follows: Service Rae Elemen Sandard Residenial Line Renal Table 1 Firs Year Caps for Cerain Basic Services Low-User Line Renal $140 Business Line Renal Residenial Insallaion $700 Business Insallaion $940 Low-User Usage Inra parish- Full $0.51 Reduced $0.44 Weekends $0.35 Low-User Usage Iner parish- Full $1.51 Reduced $1.22 $350/monh $750/monh 1 Sepember 2001 Cap Level 16

17 Weekends $0.81 Deerminaion 5.5 For he las 3 years of he price cap period, he annual sub-consrain on he prices of each of hese services, in addiion o meeing he PCI consrain each year, is pc i = pc i -1 (PI /PI -1 + Y) (5.1) where pc i -1 = price cap in previous year for service I subjec o his cap mechanism; PI = Y = same meaning as defined in Eq. (4.1); and a parameer for growh in he cap on each service se by he Office. Deerminaion 5.6 The parameer Y is se o enable rae rebalancing over he Price Cap period. The Office has se Y a 0.1 (10 percen). Opporuniy o Recover he Cos of Capial In seing he above Price Cap parameers, an imporan goal of he Office has been o afford C&WJ he opporuniy o recover is cos of capial. Neverheless, he policy objecive of moving from rae-base rae of reurn regulaion o Price Cap regulaion explicily requires a de-linking beween C&WJ s coss and revenues from year-oyear. A firm regulaed under Price Cap regulaion, while no assured o earn a minimal reurn is likewise no limied in he rae of reurn i is able o earn. The opporuniies for a firm under Price Cap regulaion o obain is cos of capial, or beer, do no lie in he deerminaions of he regulaor so much as in he firm s abiliy o adap o he compeiive marke and ake advanage of new echnological innovaions from which o obain new revenue sources. In his way, Price Cap regulaion emulaes he compeiive marke more accuraely, in is incenives and performance of he firm, han does rae-base rae of reurn regulaion. Therefore, implicily, here are a number of mechanisms buil ino Price Cap regulaion o provide an operaor such as C&WJ wih he opporuniy o recover is cos of capial on is invesmens Noneheless, he Office has aken addiional measures o afford C&WJ opporuniies o recover is cos of capial, i.e., exogenous adjusmens for fuure decreases in inernaional selemen raes. The X Facor migh have been higher or iniial prices migh have been lower had he Office no assumed ha C&WJ will probably lose marke share o compeiors. The compensaion ha he Office is graning for decreases in inernaional selemen raes, while subsanial, is no complee so ha C&WJ will have he incenive o miigae is losses in is negoiaions o deermine inernaional selemen raes. Addiionally, he Office has proposed a schedule for 17

18 rae rebalancing ha will furher miigae losses due o anicipaed decreases in selemen raes Finally, he Office examined possible values of he parameer V o be used in he exogenous facor equaion (4.2). This parameer considerably proecs from adverse impacs of selemen reducions. Deerminaion 5.7 The Parameer V shall be equal o 0.6 for he price cap period The chosen value of V does no remove compleely C&WJ s incenives and responsibiliy o reduce is losses by is own acions. For example, suppose ha here is a 10 percen decrease in selemen raes. Since he long-run price elasiciy of incoming inernaional calls is 0.6, he loss or revenues is only 4 percen, which is less han he exogenous adjusmen. Neverheless, several consideraions make he decline in selemen raes more severe: The demand elasiciy is much less in he shor run; Addiional coss mus be incurred o mee he increase in demand; The Z adjusmen goes ino effec only afer a lag; and As oher prices are raised (as permied by he Z adjusmen), heir demands are subjec o suppression For hese reasons, we believe ha while a V facor of 0.6 provides C&WJ considerable compensaion for losses associaed wih declines in inernaional selemen raes, i does no provide full compensaion. 18

19 CHAPTER 6. IMPUTATION TESTS 6.0. Impuaion ess are employed by regulaors o serve as a price floor guarding agains cross-subsidy and price squeezes, wo forms of ani-compeiive pricing which an incumben operaor is in a posiion o employ o he derimen of he compeiive marke. A his ime, he Office will no require C&WJ o file impuaion ess. Raher, he Office shall iniiae a consulaion process regarding impuaion rules ha will be effecive 1 March These rules will consider elemens of impuaion ess including filing requiremens, he required calculaions, he frequency and conen of filings, and he services ha shall be subjec o impuaion ess. Deerminaion 6.1 On 1 Sepember 2001, an auhorised signing officer of C&WJ shall provide a verified saemen ha C&WJ s iner-parish service covers is coss. Thereafer, any reducion in iner-parish raes mus be accompanied by a verified saemen by an auhorised signing officer ha he reduced raes cover heir coss. Requiremen for compliance wih an impuaion es shall apply as of 1 March

20 ANNEX 1: CLASSIFICATION & REGULATION OF C&WJ SERVICES DURING PRICE CAP PERIOD Service Caegory Baske Regulaory Treamen Fixed o Mobile Reail Usage Fixed-o-Mobile Office-Specified Cap Reail Mobile Unregulaed Unregulaed Mobile Sales o Resellers Unregulaed Unregulaed Terminal Equipmen Unregulaed Unregulaed Inerne Service Provision Unregulaed Unregulaed Inernaional Incoming, Unregulaed Unregulaed including WorldTalk, Calls Inerconnecion Services Inerconnecion Services Reference Inerconnec Order All oher C&WJ Services Basic Services API and PCI mechanisms 20

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