Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/241175 
Year of Publication: 
2020
Series/Report no.: 
Bank of Canada Staff Working Paper No. 2020-9
Publisher: 
Bank of Canada, Ottawa
Abstract: 
We study the social welfare implications of early termination fees in the US wireless industry. It is hypothesized that the elimination of long-term contracts at the end of 2015 was a transition from one market equilibrium to another. We use a theoretical model to illustrate that the endogenous choice of consumer switching costs by service providers does not necessarily raise firms' profits or hurt consumers. The forward-looking behavior of consumers facing switching costs results in significant downward pressure on prices. Service fees may be so low that consumers are better off and firms are worse off in an equilibrium with switching costs. Empirically, we find that without early termination fees, firms would increase prices by 2 to 5 percent, on average, resulting in an unambiguous increase in consumer surplus. Firms' profits derived from monthly service fees also increase. However, if we consider additional revenues from contract termination payments, the cost of processing these payments should be large enough for producer profits to be higher in the new equilibrium.
Subjects: 
Econometric and statistical methods
Firm dynamics
Market structure and pricing
JEL: 
D22
L15
L96
Persistent Identifier of the first edition: 
Document Type: 
Working Paper

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