The telecommunication market in Germany. Regulation of natural monopolies

Scientific Essay, 2015

9 Pages, Grade: 1,7


Table of Contents

1 Introduction

2 Why Regulate Natural Monopolies?

3 Methods of Government Regulation

4 Example of a current Regulation System in Germany – The Telecommunications Sector
4.1 Development of the Telecommunications Sector due to Regulation
4.2 How did the Government Regulate the Market?

5 Conclusion

6 Bibliography

1 Introduction

This seminar paper deals with the regulation of natural monopolies by the government. In general, regulation pursues the goal to guarantee equal opportunities within a market and to sustainably encourage competitively markets to the advantage of the consumer by affecting the conduct of the monopolist.[1] A natural monopoly arises when a single firm is able to supply a good or service to an entire market at a lower cost than two or more firms.[2] This failure of competition is the result of a specific market, in which variety of suppliers causes a decline of market output.[3] For example this could happen when there are extremely high fixed costs, such as large-scale infrastructure needed to ensure supply (like cables and conductions regarding the telecommunications sector) and it is more efficient to only allow one firm to supply to the market. Allowing other firms entering the market would mean they had to duplicate all the fixed costs, which in turn states that competition would lead to inefficient duplication of resources. Usually, government intervention is necessary within natural monopolies, because in that case the existence of a monopoly is beneficial and efficient or even unavoidable, but negative effects, which could be a result of the position, need to be avoided.

In a first step, this paper will refer to these negative effects, which can arise from a naturally monopolistic situation and lead to economic issues. Hence, you can conclude why natural monopolies need to get regulated. Subsequently, this paper will outline methods how to regulate a market, but due to the fact that there are many different opportunities, this paper will only refer to a few examples to give a small insight. In a final step, the paper will give an example of a current regulation system in Germany. In this case the regulation system will be the telecommunications sector. On the basis of this sector, it will be demonstrated if its regulation was successful and how the government tried to regulate the market.

2 Why Regulate Natural Monopolies?

There are different reasons for regulating a natural monopoly. The main reason for regulation is that natural monopolies may lead to economic issues. There are a lot of different issues, which can occur regarding a natural monopoly that is not regulated, but this paper will only relate to a few key problems.

Within a natural monopoly, the firm does not have to deal with competitors. That means they do not have to adapt to other firms regarding their selling prices. The expectedly profit-maximizing behaviour of the incumbent firm will probably lead to unnecessarily higher prices, instead of a competitive bidding process. This economic issue is called allocative inefficiency.[4] Furthermore the problem of non-existent competition could lead to x-inefficiency[5] and cause the same effect of higher prices. Usually, firms in a competitive market try to keep their costs at the lowest level and reduce them if possible in order to obtain more profit. With not having competitors, the monopolist is not in need of investing time to find out how to reduce their costs, but can set higher prices instead.[6] The fact that the incumbent firm does not have to deal with competitors can also lead to stagnation of technical process. The firm does not have to worry about new innovations on the part of their competitors and as a result they won’t have to put any effort or money into research to develop their products. A monopolist will not run the risk to lose a lot of money due to failure of a new innovation. But the firm is not negatively affected if there was no new project. Consequently a monopolistic firm will probably not break new ground.

These few reasons make obvious that a natural monopoly can cause a lot of disadvantages on the side of the customer and lead to tremendous prices. Apart from that, a non-competitive market includes the disadvantage for customers of not having the possibility to choose a supplier according to one’s wishes. That implies government intervention is implemented within the meaning of the customer and necessary to promote stability in an unstable market.

3 Methods of Government Regulation

In summary it can be said monopolies fail in allocating the resources efficiently compared with competitive markets. There are a lot of different methods to regulate a monopolistic market, but fundamentally there are four different actions to deal with the situation of a natural monopoly. One of these actions is the attempt to increase competition within the market. Another successful option is the insertion of rules of conduct or restrictions for the incumbent firm or the transformation of a private monopoly into a governmental institution could also change the situation. The last option is inaction, hoping the market failure will not degenerate. Usually this is not a real solution and unrewarding but at least prevents possible disadvantages that may arise from the other options mentioned.[7] To convey a better understanding of restrictions, it is useful to give a few examples. These rules intend to lead the behaviour of the incumbent firm, so that the firm is less powerful, but their aim is not to realize a competitive market. A lot of restrictions require the regulatory commission having all relevant information of the producer’s costs, but this information may be difficult to obtain. Therefore the rate-of-return regulation is often used, it requires less information. It regulates the profit of a firm by preventing large profits on part of the monopolist. The firm will get a fair defined maximum limit regarding their rate of return. If profits are very high and would obtain a massive rate of return, the firm has to reduce the selling price of the regulated product.[8] The price-cap regulation is a similar rule and also very common, but in this case the price is getting limited. The firm is not allowed to sell a product more expensive than the predetermined price cap.[9] This regulation for example requires the regulator is having all information about the firm’s costs.

4 Example of a current Regulation System in Germany – The Telecommunications Sector

The telecommunications market was defined as a natural monopoly, because it was a part of public services and exempted from competition. Regarding this market, it is spoken of a bottleneck. The reason is that network infrastructure is difficult to replicate and not effective as elucidated before. Usually, the owner of the existing network, consequently also the monopolist, which is German Telecom in this case, is not interested in opening the market for competitors. As a result, the sector requires regulation by the government.[10]

4.1 Development of the Telecommunications Sector due to Regulation

In the past, a long-distance call cost 19 pfennig a minute, while today, 17 years after the regulation of the market, Germans call unlimited according to a flat rate, which even includes browsing in the Internet. The regulation of the concerned sector is deemed to be a success story. In consequence, the market shows welfare gains regarding fixed-line and mobile communications. To give an example, regulation has achieved a huge market access, smaller prices, increasing quantity, decreasing costs and a more differentiated supply. Additionally it has implicated a variety of innovations in the form of new products.[11] Even though prices have declined vigorously, Germans spend more money on telecommunication nowadays, indeed their package includes a considerable amount more service. Apart from this, it needs to be said that regulation has implicated a negative aspect. For consumers, today’s market is less easy to see through, because of a variety of different tariffs and providers.[12] To illustrate the significant change within the market, it is helpful to refer to some data. Until 2010, the amount of competitors regarding broadband connection has increased up to 54,3 per cent while the market was non-competitive before. In comparison within Europe, Germany is now among the five most competitive telecommunications sectors.[13] Telecom has still captured a huge market share, but their profit has decreased strongly.[14]


[1] Cf. Mankiw; Taylor, Grundzüge der Volkswirtschaftslehre, p. 369

[2] Cf. Schumann; Meyer; Ströbele, Grundzüge der mikroökonomischen Theorie, p. 299

[3] Cf. Schönefuß, Privatisierung, Regulierung und Wettbewerbselemente in einem natürlichen Infrastrukturmonopol, p. 56

[4] Cf. Lipsey; Harbury, First Principles of Economics, p. 168

[5] Term introduced by Harvey Leibenstein

[6] Cf. Leibenstein, Allocative Efficiency vs. „X-Efficiency”, pp. 397ff

[7] Cf. Mankiw; Taylor, Grundzüge der Volkswirtschaftslehre, p. 367

[8] Cf. Schotter, Mircoecomomics: A Modern Approach, p. 433

[9] Cf. Schönefuß, Privatisierung, Regulierung und Wettbewerbselemente in einem natürlichen Infrastrukturmonopol, p. 183

[10] Cf. Henseler Unger, Die Regulierung von Netzindustrien in Europa, pp. 13f

[11] Dewenter; Heimeshoff, Erfahrungen und Herausforderungen der Telekommunikationsregulierung, p. 12

[12] Himmel, Zehn Jahre Telekom-Liberalisierung

[13] Cf. Dewenter; Heimeshoff, Erfahrungen und Herausforderungen der Telekommunikationsregulierung, pp. 12f

[14] Cf. Himmel, Zehn Jahre Telekom-Liberalisierung

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The telecommunication market in Germany. Regulation of natural monopolies
University of Applied Sciences Essen
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Anna Rüttger (Author), 2015, The telecommunication market in Germany. Regulation of natural monopolies, Munich, GRIN Verlag,


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