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Legal vs Ownership Unbundling in Network Industries

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  • Cremer, Helmuth
  • Crémer, Jacques
  • De Donder, Philippe

Abstract

This paper studies the impact of legal unbundling vs ownership unbundling on the incentives of a network operator to invest and maintain its assets. We consider an industry where the upstream firm first chooses the size of a network, while several downstream firms then compete in selling goods and services that use this network as a necessary input. We contrast the (socially) optimal allocation with several equilibrium situations, depending on whether the upstream firm owns zero, one or two downstream firms. The first situation corresponds to ownership unbundling between upstream and downstream parts of the market. As for the other two cases, we equate legal unbundling with the following two assumptions. First, each downstream firm maximizes its own profit, without taking into account any impact on the upstream firm's profit. Second, the upstream firm is not allowed to discriminate between downstream firms by charging different access charges for the use of its network. On the other hand, we assume that the upstream firm chooses its network size in order to maximize its total profit, including the profit of its downstream subsidiaries. Our main results are as follows. Because the investment in the network is not protected, at the time at which it is made, by a contract, the upstream firm will not take into account the interests of its clients when choosing its size. This effect can be mitigated by allowing it to own part of the downstream industry. In other words, ownership separation is more detrimental to welfare than legal unbundling. We also obtain that these results are robust to the introduction of asymmetry in network needs across downstream firms, imperfect downstream competition and downstream investments.

Suggested Citation

  • Cremer, Helmuth & Crémer, Jacques & De Donder, Philippe, 2006. "Legal vs Ownership Unbundling in Network Industries," CEPR Discussion Papers 5767, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:5767
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    References listed on IDEAS

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    1. Klein, Benjamin & Crawford, Robert G & Alchian, Armen A, 1978. "Vertical Integration, Appropriable Rents, and the Competitive Contracting Process," Journal of Law and Economics, University of Chicago Press, vol. 21(2), pages 297-326, October.
    2. Grossman, Sanford J & Hart, Oliver D, 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 691-719, August.
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    Cited by:

    1. Höffler, Felix & Kranz, Sebastian, 2011. "Legal unbundling can be a golden mean between vertical integration and ownership separation," International Journal of Industrial Organization, Elsevier, vol. 29(5), pages 576-588, September.
    2. Ray REES & Sebastian SCHOLZ, 2010. "Electricity Market Design for Germany," Sosyoekonomi Journal, Sosyoekonomi Society, issue 2010-EN.
    3. Höffler, Felix & Kranz, Sebastian, 2007. "Imperfect Legal Unbundling of Monopolistic Bottlenecks," Bonn Econ Discussion Papers 16/2007, University of Bonn, Bonn Graduate School of Economics (BGSE).
    4. B. Willems & E. Ehlers, 2008. "Cross-Subsidies in the Electricity Sector," Competition and Regulation in Network Industries, Intersentia, vol. 9(3), pages 201-228, September.
    5. repec:ers:journl:v:xv:y:2012:i:sie:p:157-194 is not listed on IDEAS
    6. Russell Pittman, 2007. "Make or buy on the Russian railway? Coase, Williamson, and Tsar Nicholas II," Economic Change and Restructuring, Springer, vol. 40(3), pages 207-221, September.
    7. Elena Argentesi & Albert Banal-Estanol & Jo Seldeslachts & Meagan Andrews, 2017. "A Retrospective Evaluation of the GDF/Suez Merger: Effects on Gas Hub Prices," Discussion Papers of DIW Berlin 1664, DIW Berlin, German Institute for Economic Research.
    8. Isabel Soares & Paula Sarmento, 2012. "Unbundling in the Telecommunications and the Electricity Sectors: How Far should it Go?," European Research Studies Journal, European Research Studies Journal, vol. 0(4), pages 157-194.
    9. Pollitt, Michael, 2008. "The arguments for and against ownership unbundling of energy transmission networks," Energy Policy, Elsevier, vol. 36(2), pages 704-713, February.
    10. Bastian Henze & Charles Noussair & Bert Willems, 2012. "Regulation of network infrastructure investments: an experimental evaluation," Journal of Regulatory Economics, Springer, vol. 42(1), pages 1-38, August.
    11. Felix Höffler & Sebastian Kranz, 2011. "Imperfect legal unbundling of monopolistic bottlenecks," Journal of Regulatory Economics, Springer, vol. 39(3), pages 273-292, June.
    12. Tangerås, Thomas P., 2012. "Optimal transmission regulation of an integrated energy market," Energy Economics, Elsevier, vol. 34(5), pages 1644-1655.
    13. Heim, Sven & Krieger, Bastian & Liebensteiner, Mario, 2018. "Unbundling, regulation and pricing: Evidence from electricity distribution," ZEW Discussion Papers 18-050, ZEW - Leibniz Centre for European Economic Research.
    14. Ibarra-Yunez, Alejandro, 2015. "Energy reform in Mexico: Imperfect unbundling in the electricity sector," Utilities Policy, Elsevier, vol. 35(C), pages 19-27.
    15. Raffaele Fiocco, 2012. "Competition and regulation with product differentiation," Journal of Regulatory Economics, Springer, vol. 42(3), pages 287-307, December.
    16. Benjamin Pakula & Georg Götz, 2011. "Organisational Structures in Network Industries – An Application to the Railway Industry," MAGKS Papers on Economics 201109, Philipps-Universität Marburg, Faculty of Business Administration and Economics, Department of Economics (Volkswirtschaftliche Abteilung).
    17. Nardi, Paolo, 2012. "Transmission network unbundling and grid investments: Evidence from the UCTE countries," Utilities Policy, Elsevier, vol. 23(C), pages 50-58.
    18. Nikogosian, Vigen & Veith, Tobias, 2011. "Vertical integration, separation and non-price discrimination: An empirical analysis of German electricity markets for residential customers," ZEW Discussion Papers 11-069, ZEW - Leibniz Centre for European Economic Research.

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    More about this item

    Keywords

    China walls; vertical separation;

    JEL classification:

    • L22 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Firm Organization and Market Structure
    • L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation
    • L95 - Industrial Organization - - Industry Studies: Transportation and Utilities - - - Gas Utilities; Pipelines; Water Utilities

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