Overusing a bypass under cost-based access regulation: underinvestment with spillovers

<Para ID="Par1">We explain how underinvestment in infrastructure upgrades is aggravated under access regulation with a cost-based access charge. When a cost-based access charge is imposed on an incumbent, the incumbent has a weak incentive to invest in infrastructure upgrades due to insufficient rewards for the investment. Then, the incumbent’s underinvestment induces the overuse of a bypass by an entrant that chooses productively efficient technology, when the degree of spillover is large, the production cost of the bypass is low, and the incumbent’s investment cost is high. The overuse of a bypass decreases the incumbent’s profits, which further reduces the incumbent’s incentive for investment. Thus, the overuse of a bypass generates a vicious cycle of underinvestment in infrastructure upgrades. Copyright Springer Science+Business Media New York 2015