Home India 1998 The Problem of International Accounting Rates

The Problem of International Accounting Rates

by david.nunes
Sidharth SinhaIssue:India 1998
Article no.:6
Topic:The Problem of International Accounting Rates
Author:Sidharth Sinha
Organisation:Indian Institute of Management, Ahmedabad, India
PDF size:36KB

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Article abstract

The developments of the last two years clearly indicate that both unilateral and multilateral attempts at resolving the accounting rate problem are unlikely to be successful. The pace of change is driven by technological developments and changes in market structure. Both these factors will exert downward pressures on settlement rates and collection rates for international traffic. The main implication for India is that it cannot continue to rely on international revenues to subsidise network development, but to take a close look at their cost and tariffs.

Full Article

The release of the Federal Communications Commission (FCC) NPRM on international accounting rates in December 1996 focused the attention of the international telecommunications community on a subject which up until then had been considered rather obscure. My interest in this area also began at this point when the Economics Research Unit of the Department of Telecommunication (DoT) asked me to prepare a presentation on this subject to the then Telecom Commission chairman and other officials of the DoT. Since then there has been a flurry of activities at the International Telecommunication Union (ITU) in Geneva focusing around possible multilateral solution to this problem. Major Issue This was, in fact, the major issue at the World Telecommunication Policy Forum 1988 (WTPF 1998). In preparation for this Forum the ITU commissioned case studies of a sample of nine countries likely to be most affected by a lowering of accounting rates as demanded by the FCC. I was involved in preparing the India case study as well as preparing a comprehensive document on all the case studies for the World Telecommunications Development Conference (WTDC 1998). Even though it has been generally accepted that settlement rates have exceeded the cost of terminating traffic the actual magnitude of the settlement rate was not of much concern as long as the imbalance of the traffic was not significant. However, during the mid-80s significant traffic imbalances began to emerge, especially on the US routes. The US net settlement payments to the rest of the world have increased from US$347 million in 1980 to close to US$5 billion in 1995. Call Reversal’ Phenomenon India is one of the leading recipients of settlement payments by the US. During this period net settlement payment by the US to India increased from US$4.6 million to US$203 million in 1995. Only China and Mexico had higher net settlement payments from the US in 1995. The problem of traffic imbalance has been exacerbated by the ‘call reversal’ phenomenon in some of the developed countries due to increased competition in these markets. The incoming traffic from the US has increased at an average rate of 40% per year over the last 3 years, while outgoing traffic to the US has remained more or less constant at the current level. Given the relatively high collection rates in India a significant proportion of the incoming traffic, especially from the US, is likely to be accounted for by call-back. According to an ITU estimate the volume of call-turnaround traffic to India from the US was around 82 million minutes in .1995. This constituted almost 30% of the total outgoing traffic to the US. Developing Country Perspective Given this situation, the US has been at the forefront of demands to reduce settlement rates. In November 1996, the FCC issued an Order requiring US carriers to negotiate benchmark rates with foreign carriers which are significantly below current settlement rates. This Order, and the authority of the FCC to take such a unilateral action, has been challenged by several foreign operators in US courts. Developing countries, including India, have questioned the US stand at the following three levels: Ÿ The cost of terminating international traffic in developing countries is not: as low as the FCC contends. Ÿ The excess of settlement rates over cost of terminating traffic is essential to finance network development – a form of international cross-subsidy. Ÿ Since the cost of terminating traffic in developing countries is higher than the cost in developed countries, cost based settlement rates should be asymmetric. Each of these arguments, while correct in principle, give rise to difficulties in practice. Cost Estimates One of the main objectives of the case studies was to resolve the issue of cost of terminating traffic in developing countries. Most of the case studies failed to achieve this objective for several reasons. First, it is not in the interest of telecommunications operators to reveal their true costs. Secondly, many operators are government monopolies and are themselves not aware of the cost of terminating traffic, especially the national extension component. The majority do not have an accounting and information system capable of generating the kind of cost information that was sought in the case studies. Even if aggregate cost information were to be made available, segregating the cost of terminating international traffic is bound to be mired in controversy over inclusion of cost elements and bases for allocation of common costs. In the case of the India case study we were able to obtain only an estimate of the combined cost of international transmission and switching using public data. The cost worked out to be approximately 20 US cents a minute as against the FCC estimate of 13 US cents a minute. It was possible to obtain this estimate because international transmission and switching facilities are provided by a separate organisation Videsh Sanchar Nigam Ltd. (VSNL) with separate accounts. In countries where these services are provided by the same operator as the one providing domestic service, such estimates will be difficult to obtain. It is for these reasons that the Focus Group set up by the ITU to advise study group 3 did not even attempt to deal with the issue of determining the costs of terminating international traffic. Universal Access Developing countries have traditionally utilised revenues from international and domestic long distance traffic to subsidise local calls and rentals. In the case of India, according to some estimates, international revenue accounts for approximately 30% of total telecommunications revenues even through it accounts for a much smaller proportion of total traffic. It is argued that movement to cost-based settlement rates will jeopardise the attempts of developing countries to raise their abysmally low teledensity levels. The main problem with this argument is that such cross-subsidies are unlikely to be sustainable in the emerging competitive international telecommunications environment. For example, India is scheduled to consider the opening up of the domestic interstate long distance market in 1999 and the international market in 2004 as a part of its World Trade Organisation (WTO) commitments. But many believe that price structures with cross subsidies are not sustainable in a competitive situation. New firms will under-cut high priced services, denying the former monopolist the revenue to fund low-priced services. Asymmetric Rates Many developing countries, including India, have taken the position that cost oriented settlement rates necessarily imply asymmetric rates given the differences in termination costs across developed and developing countries. While there is some agreement that termination costs are higher in developing than developed countries there is unlikely to be any consensus on the magnitude of such differences, given the problems of cost estimation already discussed. The US, for example, has refused to consider asymmetric rates until there are significant reductions in the level of settlement rates. Conclusion The absence of a multilateral consensus on accounting rates is reflected in the outcome of the deliberation of the recently constituted Focus Group at the ITU. The Focus Group has come up with indicative target rates for different teledensity groups based on the average of the lowest 20% of current published settlement rates in each group. For example the indicative target rate for India, which falls in the teledensity 1-5 group, is 0.251 SDR which is equivalent to about 35 US cents per minute. The target rates are proposed to be attained by 2001. However, there is considerable leeway for bilateral negotiations of both the rates as well as the transition period. For example, the target rates can be modified based on regional cost models or the output of case studies. Similarly, the transition period can be extended in the case of those countries ‘likely to encounter serious financial difficulties as a result of a sudden fall in net settlement payments. ‘ With respect to the issue of cross-subsidising universal access, the Focus Group has suggested that “In order to enhance Universal Access to telecommunications in countries / territories with low teledensity, Administrations / ROAs in a higher teledensity category may give favourable consideration to terminating incoming calls at their own cost-orientated rate without requiring reciprocal treatment. Such favourable consideration would be voluntary and based on mutual agreement. ” The development of the last two years clearly indicate that both unilateral (as in the case of the FCC) and multilateral (as in the case of ITU) attempts at resolving the accounting rate problem are unlikely to be successful. While the unilateral approach has served to focus attention on the problem, the multilateral approach has helped to educate and inform. Ultimately, countries will have to arrive at bilateral agreements. The pace of change from now on is likely to be driven by technological developments, e.g., internet telephony, and changes in market structure as a result of WTO negotiations and the ongoing reform processes in most countries. Both these factors will exert downward pressures on settlement rates and collection rates for international traffic. The main implication of these developments for countries like India is that they cannot continue to rely on international revenues to subsidise network development. These countries will have to take a close look at their cost and tariffs. Only then can they engage in bilateral negotiations in any meaningful manner. The Telecom Regulatory Authority of India has initiated such an exercise with the release of its consultative papers on telecommunications pricing.

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