Skype and the new regulatory framework.

Abstract: Skype, an increasingly popular VoIP (Voice over IP) provider, has been heralded by many as a revolution for voice telephony. The underlying technology it uses (P2P or Peer-to-Peer) and the quality of its voice calls have been the two main factors behind such bold statements. This paper looks in more detail at Skype, the services it provides and the types of internet access that enable its use in the context of the new European regulatory framework for the telecommunications sector. In particular, we analyse whether Skype will affect the boundaries of those markets that have been (or could be) identified as susceptible to ex ante regulation and whether it affects any of the criteria used to define these markets. We also analyse whether or not Skype can be considered as "potential competition", thus constraining the market power of existing operators in those markets.

Key words: Skype, VoIP, Telecommunications, new regulatory framework.

**********

Skype has been hailed by many as a revolution in VoIP (Voice over IP) telephony (1). Since its emergence in 2003, it has quickly overtaken other already established VoIP providers with impressive subscriber numbers. To-date, Skype has over 2 million users online throughout the day (GMT). However, the number of active Skype subscribers worldwide is much larger. Unlike other VoIP providers, Skype works using P2P (Peer-to-Peer) technology, thus avoiding transit via central servers which, as subscriber numbers grow in size, require upgrading. The quality of Skype phone calls is also impressive, rivalling that of PSTN (Public Switched Telephone Network) calls with virtually none of the glitches (delays, lost packets, etc) of the first VoIP providers.

According to Michael Powell, Chairman of the FCC (Federal Communications Commission) in the United States:

  "When the inventors of KaZaA are distributing for free a little  program that you can use to talk to anybody else, and the quality    is  fantastic, and it's free--it's over. The world will change now  inevitably." (Fortune Magazine, February 16th 2004). 

But will it really? This paper takes a closer look at Skype, the service it provides and the various types of internet access (broadband, Wi-Fi, 2.5G and 3G mobile phones) that allow users to talk to each other using Skype. Subsequently, in the context of the new European regulatory framework for the telecommunications sector (2), which envisages the imposition of regulatory obligations on dominant operators in markets defined as susceptible to ex ante regulation, we analyse just how "revolutionary" Skype is.

In particular, will it affect the boundaries of those markets that were identified as possibly justifying ex ante regulation, the first step of the analysis in the new regulatory framework? Roughly speaking, this would be equivalent to analysing whether Skype provides services that are substitutes to those provided in those markets, particulary local, national or international telephone services, as well as mobile phone call origination.

If Skype's services are not yet a satisfactory substitute for such services, then a second way in which it may affect the new regulatory framework is at the second stage of the analysis: is there SMP in the identified markets? More specifically, is Skype considered a potential competitor to the service providers already operating in those markets? If so, then Skype may reduce any operator's ability to behave independently of its competitors or customers (SMP).

In either case, Skype's existence and its growing popularity may influence which markets are deemed to require ex ante regulation and which operators should be subject to it. Policy makers throughout the EU consequently need to follow this issue closely.

In this paper, we first describe Skype; then we analyse the various types of internet access enabling its use; we briefly describe the new regulatory framework and analyse Skype in that context; then we draw a few conclusions.

* What is Skype?

Skype is a software application that enables its users to talk to each other using the internet. In this respect, Skype is a VoIP (Voice over IP) provider, allowing anyone with internet access and Skype software to contact other Skype users. Initially, Skype only allowed Skype users to talk to each other, i.e. non-Skype users could not make or receive phone calls. That evolved as subsequent versions of the software were made available, particularly with the introduction of SkypeOut, which allows Skype users to make telephone calls to non-Skype users, i.e. users on regular PSTN (Public Switched Telephone Network) lines. However, the latter are still unable to call Skype users (3).

Calling other Skype users is a free service at this stage, and one of Skype's creators suggests that this is likely to be the case forever (4). However, calling non-Skype users on a PSTN line is not free; Skype users pay a per minute charge that depends on the physical location (country) of the PSTN line they are trying to reach (5), independently of where the call originator using Skype is actually located.

The Skype software first became available on August 29th 2003, and version 1.0 for Windows was released on July 27th 2004 (6). Skype is still available for (free) download as a Beta version, i.e. it is still considered to in the development stage. Skype can run on several operating systems (Windows, Mac OS X, Linux and Windows Pocket PC 2003).

Skype's popularity has spread virally over the internet, relying on a "word of mouth" effect rather than marketing campaigns. Skype's website indicates that there have been close to 75 million downloads of the software (7), and Skype users have talked for almost 5.3 billion minutes (8). Naturally, there isn't a perfect match between downloads and active users. Skype's co-creator suggests that for every two downloads there is one active Skype user (9); this indicates that Skype may already have as many as 32.5 million active users, with two million of them online at the same time for the first time in February 2005 10. A recent study suggests that Skype may have between 140 and 245 million users by 2008 (11).

According to Skype's website, bandwidth requirements for service provision vary, but appear to be in the range of 3--16 Kbps when calling and 0--0.5 Kbps when idle (12). This suggests that Skype can theoretically work on dial-up internet connections (Skype recommends at least a 33.6 Kbps modem).

Skype is a P2P (peer-to-peer) VoIP solution, which routes calls directly between the computers of the two users. This means that Skype has minimal infrastructure requirements, even as the number of users increases. Other VoIP solutions, such as Vonage (13) or Net2Phone (14), rely on central servers to handle calls. Therefore, as the number of users grows, so should processing power at the centre of the network. A P2P network avoids this centralisation, and unlike centrally run networks, its processing power increases with the size of the network:

    "A peer-to-peer (or P2P) computer  network is any network that does    not rely on dedicated servers for  communication, but instead mostly    uses direct connections between  clients (peers). A pure  
  peer-to-peer network does not have the notion of clients or  servers, but only equal peer nodes that simultaneously function as  both "clients" and "servers" to the other nodes on  the network.    This model of network arrangement differs from the  client-server    model where communication is usually relayed by the  server." (15) 

Skype also guarantees full privacy of telephone conversations through end-to-end encryption. The authors testify that the quality of the calls is impressive and may well rival the quality of a PSTN call in many cases. A quick search over the internet would show just how many other users have reached the same conclusion.

* Ways of using Skype

Skype is available to anyone with an internet connection. Its availability for various operating systems implies that virtually anyone with a computer and an internet connection may download the software. However, it may be the case that Skype may not always be available for use and this may limit its market impact. We shall now discuss three such ways of accessing the internet, broadband connections, Wi-Fi and mobile phones, in greater detail.

Skype and broadband

Due to its network requirements, Skype may be more suitable to use with a broadband connection (16). The two most common broadband connections are xDSL (ADSL is the most popular type of connection) and cable modems; xDSL connections amount to some 66% of the total (17). As of March 2004, there were some 112 million broadband connections worldwide 18. Even allowing for a large growth rate over this past year, Skype's penetration is already relatively high and continues to grow.

For residential xDSL connections, Skype may well be used as a substitute for regular PSTN call origination. However, the fact is that xDSL runs over the local loop, i.e. it relies on a standard PSTN access line. This means that even though users may choose to use Skype for their telephone calls, they cannot easily avoid paying line rental, even though some operators have started offering "bundles", i.e. access line and xDSL connections at much lower rates (19). As a result, users that currently do not have a xDSL connection can only be persuaded to subscribe to one if their telephone usage is significant, thus enabling cost savings through the use of Skype. At this stage, it is fair to assume that this is unlikely to happen. Skype may become very popular with existing xDSL subscribers, who use their internet access for other purposes, but may not prove sufficiently attractive enough to attract new xDSL subscribers.

There is a similar issue with residential cable modem connections. Not all cable providers provide voice telephony, but there are various examples of a triple provision: voice, internet and cable TV (20), presumably at more affordable prices than individual purchases of each service. Therefore, for existing consumers purchasing such bundles, there may well be a change of "call consumption pattern", with Skype gradually becoming the preferred method of communication (for call origination) over the voice telephony service of the cable provider due to the former's low prices (zero price in the case of calls to other Skype users). However, Skype may not be the "trigger" for consumers who do not currently purchase the bundle (or, at least, an internet connection over cable) to take out a subscription, unless they are heavy telephone users.

In both cases, Skype may be demanding in terms of bandwidth, even for such broadband connections. Naturally, xDSL connections typically advertise maximum download/upload speeds, which vary depending on how much traffic is being processed at any given moment. Operators use "contention ratios" at the exchange level (21) to share available bandwidth between users, e.g. a contention ratio of 20:1 means that there could be 20 users at most sharing the available bandwidth at any given moment; therefore the effective download speed under those circumstances would be 1/20 of the advertised maximum speed. The same applies to cable modem connections: in this case, all subscribers on the same cable run share the available bandwidth and contention ratios are also used for that purpose.

These contention ratios are creating a problem for Skype as its popularity among broadband subscribers grows. It is common knowledge amongst voice telephone operators that people tend to concentrate their calls around certain times of day (peak periods), and these periods vary according to the type of customer (residential/business). Contention ratios for broadband connections generally vary between 50:1 (for more affordable products) and 20:1 (typically for business connections). Such ratios imply that in peak calling periods subscribers would have to share available bandwidth with as many as 50 other subscribers. A simple arithmetic calculation shows that this could fall below Skype's bandwidth requirements, especially for upload, and thus render call origination with Skype impossible or very difficult. The problem would be less serious for broadband connections with higher download/upload speeds and lower contention ratios.

Business broadband connections would be less prone to such contention ratio problems, as business broadband typically has not only higher download/upload speeds, but also lower contention ratios. However, the popularity of Skype for call origination in business broadband connections (xDSL, cable modem or leased lines) could be hampered by yet another problem: firewalls. A firewall is a set of related programs, located at a network gateway server that protects the resources of a private network from users of other networks by shielding it from unauthorized access. The firewall does this by blocking certain types of traffic. Business broadband connections are usually shared by several individual users, possibly connected as a LAN (Local Area Network). Firewalls may thus be necessary to protect internal data from unauthorised external access. Skype "should" work with any firewall (22), but further configuration may be necessary. This is obviously an obstacle to Skype's penetration among business broadband subscribers, especially if they feel that such additional network configurations weaken their firewall's ability to protect confidential data and restrict unauthorised access in any way.

Skype and Wi-Fi

Wi-Fi (23), or Wireless Fidelity, uses radio technologies called IEEE 802.11b or 802.11a to provide wireless connectivity. A Wi-Fi network can be used to connect computers to each other, to the internet and to wired networks. Wi-Fi networks operate in the unlicensed 2.4 and 5 GHz radio bands, with an 11 Mbps (802.11b) or 54 Mbps (802.11a) data rate.

Existing broadband subscribers can access the internet through Wi-Fi, typically by having a Wi-Fi router instead of an ADSL or cable modem. This should allow those subscribers to use Skype as long as they are within range of their Wi-Fi router (24), thus giving them greater mobility within the vicinity of their Wi-Fi router than possible with an xDSL or cable modem (25). This technology has proved very successful in private office and home networks; yet its adoption in public wireless networks (e.g. hot spots) has been slow. In both cases, these Wi-Fi networks were designed for a small number of concurrent users (26).

There is a version of Skype that is capable of running on PDA's (Personal Digital Assistants) using the Windows Pocket PC operating system. If such PDA's are Wi-Fi capable, then it should be possible to use Skype both in private office or home Wi-Fi networks, as well as in public wireless networks. At those locations, the PDA would function as a mobile phone. Moreover, Skype already comes installed in some PDAs (27) and should soon be available in Motorola's Wi-Fi capable mobile phones (28).

This vision of Skype and a portable device (Wi-Fi capable PDA or mobile phone) being able to act as a substitute for mobile phones near Hot Spots is an interesting one. Indeed, in areas with plenty of Hot Spots, such devices could well provide extensive coverage so as to render a mobile phone useless (29). Moreover, BAUER & LIN (2004) (30) suggest that by 2007 95% of all laptops, 55% of all PDAs and 55% of all mobile phones will be Wi-Fi enabled.

In practice there are two obstacles to this vision. Firstly, although Wi-Fi coverage is expected to continue increasing, the fact is that there are various service providers which typically cover relatively small and often non-overlapping areas. Therefore, although large areas are indeed covered by Wi-Fi, they will typically not be covered by the same Wi-Fi provider. Given that providers typically charge a flat rate for internet access at hot spots during a certain period (hour, day, month, etc.) (31), subscribers cannot realistically subscribe to all of them for extensive coverage.

Secondly, and in a related manner, use of Skype over Wi-Fi is not easy when the subscriber is on the move, especially when the limits of the Wi-Fi providers' coverage are reached. In this sense, Skype's use with Wi-Fi capable portable devices should be similar to that of public telephones: at fixed locations, but possibly with plenty of them available.

Skype and mobile phones

Finally, Skype could also be installed on mobile phones capable of accessing the internet (2.5G or more recently 3G). 2.5G allows data speeds of 64--144 Kbps (32), whereas 3G allows data speeds of 144 Kbps--2 Mbps, depending on the user's location (in a moving vehicle, walking or stationary) (33), although several 3G operators mention a maximum of 384 Kbps downloading speed (34), which again depends on network congestion.

Skype's success when installed on mobile phones will depend crucially on three aspects. Firstly, will it be installable on a wide range of mobile phones? Secondly, if installable, will mobile operators allow users to bypass their network and use Skype instead (although they would charge users for their internet usage)? Thirdly, if they do, will there be sufficient bandwidth available to use Skype?

The first question points to Skype being installable only in more recent mobile phones, with more advanced operating systems. This creates a barrier to Skype users with older mobile phones, requiring that subscribers upgrade their mobile phones in order to use Skype.

The second question is a possible challenge for mobile operators. On the one hand, mobile operators are keen to increase 3G penetration in order to recoup their network roll-out investments; on the other hand, allowing Skype to be used in their mobile phones could divert voice traffic away from mobile operators, although it could potentially increase their internet traffic. This would further accelerate the already visible decline of operators' ARPU (Average Revenue Per User) in voice telephony, as markets approach maturity, and reinforce the trend towards higher amounts of data traffic (35). Additionally, some operators are keen to develop 3G environments with "walled gardens", where subscribers are limited to a number of internet websites and content providers. This could also be a way of limiting Skype's penetration among 3G mobile phone subscribers.

The third question relates to possible network congestions when using Skype. Again, some mobile phones mention a realistic download speed of 30--40 Kbps on 3G. At congested times of day this could prove to be insufficient to use Skype reliably.

* Skype and the new European regulatory framework

The new regulatory framework

The new European regulatory framework for electronic communications, introduced by the Directive 2002/21/EC (Framework Directive), aims to adapt the previous telecommunications framework to a constantly evolving market and technologies, where convergence is the keyword. Under this new framework, economic regulation is imposed by a "Significant Market Power" (SMP) regime. This regime entails three steps.

Firstly, potential market areas to be regulated must be selected and defined according to standard competition law methodologies, i.e. product and geographic markets must be identified. (36)

To identify the circumstances in which ex ante regulation is needed three cumulative criteria have to apply :

* Presence of high and non-transitory entry barriers whether of structural, legal or of regulatory nature.

* Given the dynamic character and functioning of electronic communications markets, possibilities to overcome barriers within a relevant time horizon, also have to be taken into consideration when carrying out a prospective analysis to identify the relevant markets for possible ex-ante regulation. This second criteria admits only those markets that have a structure that does not tend towards effective competition within the relevant time horizon.

* The application of competition law alone would not adequately address the market failure.

All three criteria should be applied cumulatively, which means that the absence of any of them implies that the market would not be selected as susceptible to ex ante regulation.

The Commission adopted a Recommendation (37) which, based on competition law methodologies and on these three selection criteria, identified 18 markets that were likely to justify the imposition of ex ante regulation. It then left the task of analysing whether such markets were appropriately defined bearing in mind each country's specific circumstance to individual National Regulatory Authorities (NRAs).

Secondly, operators with SMP must be identified, by NRAs, in each of those markets and in each country where the definition of SMP is largely equivalent to definition of a dominant position, i.e. a position that gives the power to behave to an appreciable extent independently of competitors and customers. Such power is evaluated according to a number of criteria: market shares, economies of scale or scope; barriers to expansion, control of infrastructure not easily duplicated, absence of potential competition etc. (38)

Finally, regulatory obligations are imposed on SMP operators. These obligations are to be chosen from a menu provided in the Directives: transparency, non-discrimination, accounting separation, compulsory access and cost-orientation. If SMP is identified in retail markets, then the NRA must show, in addition to the existence of a dominant position, that an intervention in the wholesale market would not solve the problem identified in the retail market.

Skype and market definition

According to standard market definition methodologies, i.e. looking at demand side and supply side substitutability (39)--the possible competitive constraints on the price-setting behaviour of service providers--Skype operates in two different product markets:

--call origination to other Skype users; and

--call origination to non-Skype (PSTN) users.

Neither of these would be considered to be demand or supply-side substitutable. Analysing demand substitutability leads us to conclude that a Skype user who wishes to contact a non-Skype user using Skype has two possibilites: using SkypeOut, and paying the per-minute charges or convince those non-Skype users to download, install and use Skype. Applying the hypothetical monopolist test would imply thinking about what would happen if the call origination price to non-Skype users increased by 5 to 10%. If Skype users substituted call origination to non-Skype users with call origination to other Skype users, then we can conclude that Skype would only operate in a single market: those two services would be considered substitutes. However, if such a price increase led to little or no substitution between those two services, then they should be seen as constituting two separate markets: call origination to other users (Skype and non-Skype users).

Analysing the case at hand suggests that these would indeed constitute two separate markets. If the opposite was true, then there would be no point in introducing SkypeOut: existing Skype users could be "trusted" to convince whoever they wished to call to download and use Skype, and there would be no need or demand for SkypeOut.

The geographic market, for both products defined above, is worldwide: Skype virtually covers the whole world and provides a relatively homogeneous product. For any call terminating in any location, the price of the call does not depend on where it originates. All Skype users worldwide pay the same rate for a call to a particular country or location.

The key question is naturally to ask oneself whether any of the above markets belongs to any of the markets which the European Commission suggested (40) were likely to justify ex ante regulation. In particular, because Skype is a retail product, do any of the above markets belong to the market for:

--publicly available local and/or national telephone services provided at a fixed location for residential or non-residential customers (markets 3 and 5);

--publicly available international telephone services provided at a fixed location for residential or non-residential customers (markets 4 and 6);

--access and call origination on public mobile telephone networks (market 15)

If it does, then Skype will indeed have contributed to the convergence process observed in the telecommunications sector, by rendering a form of VoIP telephony a true substitute for PSTN telephony, building a bridge between two interconnected, but still separate networks: the PSTN and the IP network.

Firstly, a "publicly available telephone service" is defined as:

    "a service available to the public for  originating and receiving  
   national and international calls and for access to emergency  services through a number or numbers in a national or international  
   numbering plan. It may include, inter alia, the provision of  operator assistance, directory enquiry services, the provision of  
  special facilities for customers with disabilities, etc." (41)  

Skype cannot at present be used to receive national or international calls from other PSTN lines. The possible introduction of SkypeIn will address this issue, by allocating Skype users a telephone number that other users can use when calling from a PSTN line. Therefore, although Skype is operating in markets which may, in the future, belong to the above markets, it is not yet at that stage. Skype is slowly moving into a position where it can provide a service that is a functional substitute (i.e. allows call origination and termination) for PSTN telephone services. However, even then it should be noted that Skype's substitutability may depend crucially on the existence of a broadband connection. In turn, this broadband connection requires copper line access for ADSL connections or it is provided bundled with voice telephony and TV for cable connections. In those cases, substitution could feasibly be only partial and justify the existence of two separate markets: one for Skype phone calls and one for PSTN phone calls.

Similarly, the markets defined above cannot be considered to be in the same market as call origination in mobile networks. As discussed above, Skype can be used with a Wi-Fi connection or even with a 3G mobile phone internet connection. However, for the former the coverage issues and the difficulties of service provision when the subscriber is on the move imply that Skype call origination is not yet in the same market as mobile call origination. The same reasoning applies for the latter: low transfer speeds and potential obstacles created by mobile operators to Skype's installation and use with mobile phones make it difficult to say that Skype call origination is in the same market as mobile phone origination.

Skype and the choice of markets susceptible to ex ante regulation

Although Skype does not provide services that should be included in any of the relevant markets identified above, its existence may affect the likelihood that such markets will indeed require ex ante regulation.

With respect to the first criterion, Skype's emergence in the provision of call origination (and soon termination) services occurred despite the existence of such barriers. Indeed, the Commission Recommendation identified the markets for the provision of local, national and international telephone services (for residential and non-residential customers) as markets susceptible to ex ante regulation (42), i.e. markets for which all the criteria mentioned above are verified. It appears unlikely that Skype will in any way reduce the barriers to entry into such markets; indeed, Skype operates despite such barriers, and therefore does not provide a service that could in any way reduce them (other than by signalling the potential of the internet to provide telephone services, competing directly with PSTN services).

With respect to the second criterion, it is useful to refer to its exact definition:

    "The application of  this criterion involves examining the state of    competition behind the  barrier to entry, taking account of the fact    that even when a market  is characterised by high barriers to entry,    other structural factors  or market characteristics may mean that    the market tends towards  effective competition. This is for    instance the case in markets with  a limited, but sufficient, number    of undertakings behind the entry  barrier having diverging cost    structures and facing priceelastic  market demand. [...] Entry barriers may also become less relevant with  regard to    innovation-driven markets characterised by ongoing  technological    progress. In such markets, competitive constraints  often come from    innovative threats from potential competitors that  are not    currently in the market. In such innovation-driven markets,  dynamic    or longer term competition can take place among firms that  are not    necessarily competitors in an existing "static"  market."    (Explanatory memorandum to the Commission  Recommendation, p. 11). 

In this sense, it could be argued that the provision of voice telephony may now be in a relatively innovation-driven phase, with VoIP emerging slowly as a credible alternative to PSTN. In this context, it could be argued that Skype (and other VoIP providers) could be the potential competitors that are not currently in the market. It consequently seems likely that Skype and other VoIP providers will play an interesting role in the next choice of markets susceptible to ex ante regulation, which is expected to occur in late-2005.

Skype and SMP assessment

Although Skype appears not to provide services in the same markets that the EC believes require ex ante regulation, its existence may in some ways affect the ability of any operators in those markets to act independently of their competitors or customers. In such an ex ante regulatory regime, "Market power is essentially measured by reference of the power of the undertaking concerned to raise prices by restricting output without incurring a significant loss of sales or revenues" (Commission Guidelines, para. 73). In the markets defined by the European Commission, market power can, "be constrained by the existence of potential competitors [...] not currently active on the relevant product market (which) may in the medium term decide to enter" (Commission Guidelines, para. 74).

Skype (and other VoIP providers) should already be considered potential competitors in the markets defined by the Commission. This implies that all operators in those markets will see Skype as a hindering factor to possible price increases. Indeed, and with regard to call origination at a broadband subscriber's premises (residential or business), the existence of Skype will in all likelihood significantly reduce incentives to "bundle" broadband connections and voice telephony (and possibly TV for cable providers) at significantly reduced prices. In this respect, Skype will limit the extent to which such operators can effectively cross-subsidise between the services. However, by "playing" with contention rations, broadband providers can effectively maintain any cross-subsidisation between the services that they may have in place. By increasing the contention ratios, i.e. by sharing available bandwidth between more subscribers, broadband providers can significantly reduce Skype's threat, especially at peak hours. Using such a strategy, Skype could be kept out of the markets defined above for some time. This could occur especially when the voice operator is also the broadband provider, even if both services are not purchased as a bundle. (43)

The same is true for mobile call origination, albeit with a possibly even lower impact on existing operators. Skype's usage over Wi-Fi may be considered as potential competition in densely covered Wi-Fi areas, such as large urban areas, and even that potential threat is mitigated by the Wi-Fi competitive process itself: providers "choose" areas for which they provide Wi-Fi coverage, with few examples of wide Wi-Fi areas covered by a single provider. However, Skype's threat can be significantly limited by mobile operators themselves, for example by running 'walled garden' environments in internet services that do not allow Skype to be used. Additionally, existing maximum bandwidth on 3G internet access also means that even if operators choose not to restrict Skype's usage over their network, possibly diverting some of their mobile originating traffic, users could be disappointed by the quality or even availability of the service.

* Conclusion

Skype, a new VoIP provider that has experienced phenomenal growth since its launch, it considered by many as a "revolutionary" service, which is likely to seriously threaten existing telecommunications' operators and contribute to the convergence between the PSTN and the IP network as far as voice telephony is concerned.

Whilst this may indeed happen in the future, a more careful analysis of Skype's potential shows that such developments may be a long way off. In particular, Skype cannot yet be considered a "substitute" for publicly available telephone services, a market that the new European regulatory framework deems to be potentially in need of ex ante regulation because of the likely existence of operators with SMP. Skype currently provides call origination services only, even though a new service is to be introduced in the future, SkypeIn, will give Skype users a telephone number that allows anyone (Skype or non-Skype users) to call them.

Skype's existence may, however, change the likelihood of particular markets being selected as susceptible to ex ante regulation. Indeed, one of the selection criteria is that there should be limited possibilities to overcome barriers to entry within a relevant time horizon. If Skype's popularity continues to increase and if there is a possibility that it may establish itself as a credible threat to PSTN incumbent operators, then some of the markets selected in the first Commission Recommendation, namely the provision of local, national or international telephone services, may not satisfy this criteria and could be deemed not susceptible to ex ante regulation.

If that is not the case, Skype's potential impact under the new regulatory framework would thus be limited to acting as a potential deterrent to the exercise of market power by operators present in those markets. In that respect, Skype could act as a potential competitor, which would limit the extent to which dominant operators in those markets could raise their prices. Again, a careful analysis shows that existing operators have a significant advantage over Skype, especially if they provide not only the telephony services offered by Skype, but also the broadband connection needed to use Skype. Such operators can limit the extent to which Skype can act as a potential competitor, by "playing" with the contention ratios of the broadband connection. Mobile operators can also limit the extent to which Skype can affect them by running "walled garden" environments. In this latter case, even if mobile operators were not to pursue such a strategy, Skype's potential threat would in any case be less significant than in the fixed location markets because of available bandwidth limits for 3G internet access.

Our conclusion is that Skype may indeed revolutionise voice telephony. However, this revolution depends to a significant extent on existing operators' strategies. This suggests that it would not be surprising to continue to see Skype operating in parallel, but different markets from such operators for quite some time. In all events, the future depends critically on incumbent operators.

(*) Centro de Estudos de Gestao e Economia (CEGE) is financed by Fundacao para a Ciencia e a Tecnologia--Programa Operacional Ciencia, Tecnologia, Inovacao (POCTI) co-financed by the Portuguese Governement and the European Union through FEDER.

(1) This is clear from a quick internet search of the words "Skype" and "revolution".

(2) Directive 2002/21/EC of the European Parliament and of the Council of March 7th 2002 on a common regulatory framework for electronic communications networks and services, Official Journal of the European Communities [2002] L 108/33, henceforth the Framework Directive.

(3) Skype is currently developing a new service, SkypeIn, which gives Skype users a phone number and an area code which allows them to be contacted by anyone on a PSTN line (http://blog.tmcnet.com/blog/tom-keating/voip/ voip-blog/skype-keynote.asp).

(4) http://news.com.com/Skypes+VoIP+ambitions/2008-7352_3-5112783.html

(5) These charges are 1.7 Euro cents per minute for calls to most EU countries (fixed lines--mobile numbers are more expensive).

See http://www.skype.com/products/skypeout/rates/all_rates.html

(6) http://en.wikipedia.org/wiki/Skype

(7) http://www.skype.com, February 23rd 2005.

(8) http://www.skype.com, February 23rd 2005.

(9) http://news.com.com/Skypes+VoIP+ambitions/2008-7352_3-5112783.html

(10) http://www.henshall.com/blog/archives/001120.html

(11) Evaluserve, Impact of Skype on Telecom Service Providers (January 6th 2005).

(12) http://www.skype.com/help/faq/technical.html

(13) http://www.vonage.com

(14) http://www.net2phone.com

(15) http://en.wikipedia.org/wiki/Peer_to_peer

(16) Broadband is commonly defined as Internet access of at least 128 Kbps. Most ADSL connections have dowload speeds of at least 256 Kbps, but may have upload speeds lower than 128 Kbps.

(17) http://www.itudaily.com/new/home.asp?articleid=4090901

(18) http://www.itudaily.com/new/home.asp?articleid=4090901

(19) Oni, a new entrant in the Portuguese telecoms market, offers OniDuo, a 512 Kbps ADSL connection and access line (through unbundled local loops and their own access network) at 22.50 [euro] per month. For clients with access to Oni's network, 22.50 [euro] is the total monthly price paid for both services; for clients with unbundled local loops, 22.50 [euro] is the price paid to Oni, but clients have to pay an extra 15 [euro]/month as line rental to the incumbent operator (Portugal Telecom) (http://www.oninet.pt/CH000_Produto.aspx? Prod=A000000000074665&TokenUser=NA&Parent URL). The equivalent ADSL product provided by the incumbent, SAPO Standard 512 Kbps, costs 34.99 [euro]/month (http://adsl.sapo.pt/standard.html, February 28th 2005).

(20) In Portugal, TVTel started offering the bundle voice/TV/Internet in October 2004 (http://www.tvtel.pt/news.asp?id=77); Cabovisao, another cable provider, also offers that bundle (http://www.cabovisao.pt/particulares/index.html); however, the main cable TV operator, TV Cabo, owned by the incumbent voice operator (Portugal Telecom) only offers the TV/internet bundle. In the UK, the main cable providers, Telewest (http://www.telewest.com) and NTL (http://www.ntl.co.uk), offer all three services.

(21) The available bandwidth of the copper line between the subscriber's premises and the exchange is not shared.

(22) http://www.skype.com/help/guides/firewall.html

(23) http://www.wi-fi.org

(24) This range varies and depends on the Wi-Fi hardware used, as well as the environment where the router is located, e.g. open environment or building, walls, furniture. A typical range could be between 22 and 45m in a typical home or up to 3,000m in open environments. See http://www.wi-fi.org/OpenSection/FAQ.asp?TID=2

(25) Skype's usage in this context could be equivalent to using a cordless phone, rather than a standard phone.

(26) Kalmus, Philip (2003), "WiFi and the Wireless Local Loop", NERA Working Paper.

(27) http://www.skype.com/company/news/2005/imate.html

(28) http://www.skype.com/company/news/2005/motorola.html

(29) Central London already has a sufficiently high number of Hot Spots so as to provide such extensive Wi-Fi coverage (http://www.zdnet.co.uk/specials/wifimap), part of it with the same provider (http://news.zdnet.co.uk/communications/wireless/0,39020348,39117757,00.htm); Paris also seems to be aiming for such extensive coverage: http://news.zdnet.co.uk/communications/0,39020336,39162037,00.htm

(30) BAUER Johannes & LIN, Yu-Chieh (2004): "Transition Paths to Next-Generation Wireless Devices", Paper prepared for presentation at the 32nd Research Conference on Communication, Information and Internet Policy, October 2004.

(31) http://www.zdnet.co.uk/specials/wifimap/operators-pricing.htm

(32) http://www.mobile-phone-directory.org/Glossary/0-9/2.5G.html

(33) http://www.mobile-phone-directory.org/Technology/ 3G_-_Third_Generation

(34) Some mobile operators are announcing significantly slower speeds: TMN, Vodafone and Optimus (Portugal), as well as Vodafone (UK) mention a maximum download speed of 384 Kbps for 3G.

(35) http://research.analysys.com/default.asp? Mode=article&iLeftArticle=751&m=&n

(36) Commission Guidelines of July 9th 2002 on market analysis and the assessment of significant market power under the Community regulatory framework for electronic communications networks and services, Official Journal of the European Communities [2002] C 165/6, henceforth the Commission Guidelines.

(37) Commission Recommendation, para. 9

(38) Commission Recommendation 2003/311 of February 11th 2003 on relevant product and service markets within the electronic communications sector susceptible to ex ante regulation in accordance with Directive 2002/21/EC of the European Parliament and of the Council on a common regulatory framework for electronic communications networks and services, Official Journal of the European Communities [2003] L 114/45, henceforth the Commission Recommendation.

(39) Commission Guidelines, para. 78.

(40) Commission Guidelines, para. 38.

(41) http://europa.eu.int/information_society/topics/ ecomm/all_about/todays_framework/universal_service/index_en.htm

(42) Commission Recommendation, Annex

(43) In some European countries, such as Portugal or Spain, the main telephone operator also has a significant presence in the broadband market. In the case of Portugal, both services are sold by two separate companies belonging to the same group--Portugal Telecom.

Ricardo GONCALVES & Rita RIBEIRO

Indera--Estudos EconomicosCEGE

Universidade Catolica Portuguesa (C. R. Porto) (*)