South-Western College Publishing - Economics  
FCC Tell Mexican Telephone Company to Reduce Rates
Subject Barriers to Entry, Social Welfare
Topic Monopoly
Key Words Joint Venture, Cost, Monopolies, Anticompetitive Practices, Surcharge, Public Interest
News Story

Sprint Corporation and Telephonas de Mexico (Telmex) are involved in a joint venture providing telephone links between Mexico and the US. The Federal Communications Commission (FCC) has rejected Telmex's proposed "settlement" rates that are charged to other long-distance carriers: Telmex had been wanting to charge 37.5 cents per minute in 1998 and 34.5 cents in 1999. (Settlement rates tend to be well above the cost of completing a call, especially where there are dominant state-owned telephone monopolies.) The FCC also has criticized other anticompetitive practices, such as a 58 percent surcharge on calls to Mexico.

According to the FCC, US consumers have been paying too much to contact friends and family in Mexico. Calls generated some $700 million in payments in 1997 to Telmex. The joint venture has retorted that it provides a service that is wanted and needed, and that other carriers and the public interest have not been hurt.

(Updated February 1, 1999)

1. Telmex is able to charge high settlement rates due to its monopoly position as a provider of telephone links between the US and Mexico. What is the source of its monopoly? Put differently, what are the barriers to entry for potential competitors?
2. a) Given that Telmex is a monopolist, draw a diagram of the market for long-distance connections to Mexico. Show Telmex's demand and marginal revenue curves and its average total and marginal cost curves. Mark the equilibrium settlement rate (or price) and quantity of US-Mexico phone calls. Shade in the area that represents profit.
  b) Whay are Telmex's revenues and profit so high? Cite at least two factors by referring to your diagram and the news story.
3. Sprint and Telmex have stated that the public interest has not been hurt.
  a) Is social welfare maximized in the industry? Explain with reference to your diagram.
  b) If the joint venture reduces its settlement rates, will social welfare be increased? Will consumers be better off in terms of consumer surplus? Explain.
Source Stephen Labaton, "F.C.C. Says Sprint and Telmex Overcharged on Some Rates", The New York Times, November 25, 1998.

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