New formulas to cope with the growth and concentration on IP traffic

A recent report by NERA underscores the necessity of significant network investments in Latin America to handle the substantial growth in traffic driven by Large Traffic Generators (LGTs) video services, while simultaneously expanding coverage and bridging the digital divide. However, telecom operators alone cannot bear the financial burden without market adjustments for long-term business sustainability, and it is unfeasible for end-users to bear higher costs. Consequently, a comprehensive examination of regulatory and taxation reforms is crucial, along with exploring avenues for large LTGs to contribute financially towards network roll-out efforts.

New formulas to cope with the growth and concentration of IP traffic

Miguel Calderón

Reading time: 4 min

In Latin America there is a coexisting  digital divide coexist with strong growth in internet data traffic. Coping with both requires substantial investment by telecommunications operators, which is a challenge due to the low profitability in the current market, regulatory and fiscal circumstances.

To analyse this problem and explore possible alternatives, Telefónica HISPAM commissioned the international consultancy NERA to produce a report on the implications of the growth and concentration of IP traffic on the development of telecommunications networks in Latin America. Find the report attached below.

Internet: a two-sided market with asymmetries that harm network development

The report analyses Internet access as a two-sided market where telecommunications operators connect end-users with application and service providers (Large Traffic Generators or LGTs). In Latin America, the players in this market are treated asymmetrically, with operators having strong commercial, regulatory and fiscal restrictions and obligations, and LGTs having virtually none.

On the other hand, end-users pay all connectivity costs, and LGTs do not pay for the connectivity they use. Numerous economic studies have shown that these asymmetries harm network development, leading to lower network coverage, higher end-user prices, poorer quality and overall lower investment.

Rapid traffic growth affects actors asymmetrically and jeopardises investments to bridge the digital divide

The report analyses the forecast growth in internet data traffic, which comes mainly from the growth of LGTs video services, and which is concentrated in seven large global LGTs outside the region. The impact of traffic growth on players is also asymmetric: LTGs increase their revenues and profits, while operators’ revenues do not increase, but their costs rise.

The report makes two quantitative estimates of the impact of traffic growth on network operators’ cost increases: an econometric analysis based on actual cost and traffic data from operators in the region, and a simulation using a network cost model from the Peruvian regulator Osiptel. To these additional network costs it adds an estimate of the cost of additional radio spectrum bands (3.5 GHz) at the average prices paid in the region.

The results of the analysis show that, net of the effects of increased coverage and lower unit costs due to technological progress, Latin American operators will have to spend between US$32 billion and US$52 billion between 2023 and 2028 to expand their network capacity to absorb the expected growth in internet traffic. To these amounts, an additional US$17 billion is estimated to be needed to expand the coverage of 4G, 5G and fibre networks to close the coverage gap.

Given that LTGs do not currently pay for connectivity, that Latin American end-users cannot afford to pay higher prices due to rising poverty rates, and that operators find it difficult to raise financing because their profitability in the region, on average, is lower than the cost of capital, the report concludes that these investments will not be possible without changes in the market and the regulation and taxation of the sector.

Investments can be viable if regulation and taxation of the sector are reformed and LGTs contribute financially

Finally, the report explores what realistic alternatives can be used to improve the return on the necessary investments. One is to increase operators’ revenues by making it easier for LTGs to pay for the connectivity they use, as is already the case in South Korea and is being explored in Europe. Others are based on reducing their costs: lowering the cost of the radio spectrum used or granting supplementary spectrum at no additional cost, removing or reducing sector-specific taxes and contributions, and repealing or relaxing counterproductive or obsolete sector-specific regulation. In addition, the fact that LTGs pay for the traffic they send will give them an incentive for more efficient traffic management, which will reduce their rate of growth and thus the costs of expanding capacity.

The reduction in revenue due to the lowering of the spectrum and the abolition of sector-specific taxes and fees would not necessarily lead to a net decrease in tax revenues, as the increase in sector activity could be offset by an increase in ordinary tax revenues. However, should there be a net reduction in tax revenues that is not affordable, the reduction could be compensated to operators by making the LTGs liable for the sectoral taxes or fees that remain, as is currently being discussed in the US and the EU.


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