Investments and Network Competition

This paper analyzes the incentives that network operators have to invest in facilities with different levels of quality. We extend the framework of Armstrong-Laffont-Rey-Tirole by introducing an investment stage, prior to price competition, and we study the dynamic aspects of two-way access charge regulation. When the quality of a network has an impact on all calls initiated by own customers (destined both on-net and off-net), we obtain a result of "tacit collusion" even in a symmetric model with two-part pricing. Firms tend to under-invest in quality, and this would be exacerbated if they can negotiate reciprocal termination charges above cost. On the contrary, below-cost access charges would improve social welfare. We also show that when the quality of off-net calls depends on the interaction between the quality of the two networks, there is another serious problem, namely that no network has an incentive to jump ahead of its rival by investing more