Call termination is a service that telecom network operators offer to connect their networks with each other. Telephony subscribers often have contracts with different fixed or mobile telecom operators, whose networks need to be connected for a telephone call. Networks are connected through call termination. If subscriber A calls subscriber B who has a contract with a different network operator, the operator of B arranges that the call terminates in its network. For that, the operator of A pays a termination charge to the operator of B.

This termination charge is regulated because the network operator of B has a monopoly position at the moment of calling: the call cannot be terminated in another network. Regulation requires that termination charges are based on costs. Two methods are of particular interest. Both models are based on bottom up long run incremental costs (BULRIC). But they differ in which costs are taken into account as incremental costs. The price cap in the pure BULRIC model only accounts for costs relating to call termination. In contrast, the BULRIC plus price cap also contains some of the common costs. In this report, SEO Economic Research compares these methods based on their welfare effects.

More specifically, these methods are compared based on their effectiveness and proportionality that correspond to the legal requirements of the Dutch Telecommunications Act. SEO draws the conclusion that pure BULRIC scores better in both aspects. In the absence of strong network and call externalities, such as in the Dutch mobile market, including common costs within incremental costs is not justified. Mobile operator can cover these costs more effectively by raising retail prices. Therefore, BULRIC plus that accounts for some common costs contains a mark-up over incremental costs. Consequently, pure BULRIC controls the market power of the monopoly network operator more effectively than BULRIC plus.

Regulation complies with the requirement of proportionality if controlling market power does not include unnecessary costs or an unreasonable reallocation of welfare. In total, pure BULRIC has more positive welfare effects than BULRIC plus. Only under specific circumstances, BULRIC plus can deliver higher profits for mobile operators. However, the increase in profits does not outweigh the lost benefits of those mobile and fixed telephony consumers that pay a higher retail price and thus call less. Therefore, pure BULRIC achieves a higher level of welfare and meets better the proportionality requirement of regulation.