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Chorus ‘tar baby’ spreads risk from investors to taxpayers

Healthy competition is a key driver of efficiency gains. The State-Owned Enterprises Act 1986 set up statutory monopoly Crown entities as commercial enterprises and the government told them to get ready to face competition. 

Telecom New Zealand was formed in 1987 and privatised in 1990. The competitive response of Telecom to new entrants such as Clear Communications and Bell South was impressive. Large-scale investments in infrastructure eliminated the unconscionable delays businesses were experiencing in getting phone lines connected. Unit costs were greatly reduced along with average prices.

One measure of efficiency gains is the government statistician’s multi-factor productivity index. It rises when the industry produces more output per unit of inputs. 

Between 1986 and 2001, multifactor productivity rose at an impressive average rate of 2.9% annually in the information, media and telecommunications sector. 

This was achieved under a regulatory regime that relied on general competition law, the Commerce Act, Telecom’s Kiwishare Obligations and the courts.  

Regulatory risks

Even though every aspect of Telecom’s business was potentially contestable, it takes many years for competitors to build competing infrastructure. To achieve a full transition to a “normal” competitive environment would take decades. Impatience by competitors, the public and politicians for quicker results can create major regulatory risks for incumbents, old and new.

The Telecommunications Act 2001 reflected that impatience. It set up an industry-specific regulator who would be responsible for making major recommendations on the basis of limited information and mixed incentives.  

Critical economists at the time argued that this initiative would be likely to produce disappointing outcomes. It would further politicise the industry, stimulate self-interested lobbying, focus businesses more on securing regulatory advantages and less on meeting customer needs, weaken property rights and undermine the rule of law. Such things make investors nervous.

Unseemly glee

The 2006 Budget further politicised the industry and raised regulatory costs. It impatiently set aside the Telecommunications Commissioner’s late 2003 recommendation against forced operational local loop unbundling. The announcement effect alone carved several billions out of Telecom’s market value. 

No professional case was made in 2006 that any benefits for New Zealanders would be plausibly comparable to such costs. Indeed, one could reasonably ask to what degree such benefits as did exist were captured by Telecom’s much larger overseas-owned competitors.

Nevertheless, the move was massively popular at the time, with a fair measure of unseemly public glee that investors in Telecom “had got what was coming to them.”  

Telecom shareholders had no opportunity to get fair play. Parliament is the supreme law-maker and public opinion was on its side. Even if they could have gone to court to get a fair hearing, there would little point if politicians simply legislate to overturn the outcome. The political response to the Privy Council’s 1994 determination of the Telecom-Clear dispute over the Baumol-Willig pricing rule illustrates the difficulty.  

Yet, in a civil society, respect for private property rights should provide some protection against the politically expedient use of the Crown’s coercive powers. First, the Crown would have to demonstrate that a taking of rights in private property was justified in the public interest; second, it would have to consider the issue of compensation. 

This is apparently not the case in New Zealand with respect to public utilities, notwithstanding the existence of such principles in the Legislation Advisory Committee guidelines.  

Sir Geoffrey Palmer addressed the takings/compensation issue at the time in his then capacities as chairman of the Law Commission and chairman of the Legislation Advisory Committee. 

His little-known July 31, 2006, assessment advised the then Attorney-General that the sole issue for him to consider was whether the government’s measures amounted to a taking of property. 

Having posed the issue, Sir Geoffrey’s assessment immediately opined that “[o]pening up a public utility to greater competition by itself cannot be so described.” No taking means no compensation. Investors be warned.

Roger Kerr, then executive director of the New Zealand Business Roundtable, observed in September 2006 that the “lack of due process, the prospects of ongoing regulatory debates and litigation and the bad signals to domestic and foreign investors bode ill for the future.”

Conflict of interest

The next big step in the politicisation of industry pricing and investment decisions was the National government’s decision to be an investor in a competing platform for copper wires, wireless and satellite – fibre, and to commit political capital to achieving a good uptake.   

That decision created a conflict between the government’s interest as a market participant and its role as an impartial regulator of competition. Government conflicts of interest heighten regulatory risks for private investors. 

As Bronwyn Howell of the Institute for the Study of Competition and Regulation has pointed out, the government’s public policy objective is unclear. 

If fibre was commercially competitive with copper and wireless, why was it necessary to invest taxpayers’ money? If it is not commercially competitive, why do it? If the government is not clear about its objective, how are investors going to know what it might do next and how does this uncertainty help investment?  

Meanwhile, Labour’s signals to investors in utilities hardly seem designed to encourage them to vote Labour. Chorus shareholders are merely the latest victims in this regulatory morass.  

A fractured and politicised industry is not a good recipe for high productivity growth. Multifactor productivity growth in this technologically dynamic industry averaged only 1.7% a year between 2001 and 2011, well down on the 1987-2001 average.

The likely consequence of discouraging private investment in infrastructure is that taxpayers will be forced to invest more and more heavily, either directly or by subsidising private investment. 

The enormous taxpayer losses in Solid Energy illustrate the risks to taxpayers from this path.

Bryce Wilkinson is senior research fellow at The New Zealand Initiative. He owns no shares in any New Zealand utility companies.