Saturday, 8 June 2013

A cunning plan...

In many industries, consumers rely on effective infrastructure based competition. Or to put it in plainer English, if you're going to get a good deal on your mobile phone service, or on your internet service provider,  or on your airline, or on your pay TV, or your car ferry, or on your cataract operation, or on many other things you might want to buy, you need to be able to choose between companies that have rolled out their own equipment on the ground. Without their own gear actually deployed, in many industries companies can't compete for your business effectively.

There is an argument, and often enough I can go at least part of the way along with this, that incumbents don't actually need a real competitor on the ground, in order to be disciplined to offer you a fairer deal. The buzzword here is 'contestability': if a market is 'contestable', meaning that new entrants can give it a go without too much bother, then  incumbent rip-off merchants can't push their luck. If they do, grossly excessive prices and profits will attract new entrants, the last thing the incumbents want. So the incumbents will set their prices at some sort of less-than-screw-you-over-completely level, and we're all sweet.

Sometimes, this isn't a bad description of how the real world can operate. Contestability - the threat rather than the actuality of competition - may well figure into the the strategic planning of any incumbent with market power, and in their own enlightened self-interest, they might well figure that a better deal for their customers today might well be worth more to them in the long run than facing an aggressive battle for the market with a new entrant competitor.

The mere threat of competition, we can probably agree, can help keep powerful incumbents constrained to some degree. Fine. But is the threat as effective as the reality? Almost certainly not. Someone actually deploying planes or trains or ships or optical fibre or hospitals or web servers or power stations, and buying advertising time in the media and signing up customers - now it's game on. The incumbents had better sharpen their pencils, because if they don't, the new entrant, and the consumer, win.

This is all in the realms of Microeconomics 101, and to be honest you wouldn't need any course in economics to figure it out for yourself.

In the light of all of this, you'd think that, if a government was looking at a market where there were concerns about ripoffs, the one thing they would absolutely want to ensure was (at a minimum) the 'contestability' of the market. All of which makes the following news, which I've only just come across, so difficult to understand.

Here's the news: it relates to something that originally happened back in 2002, but has now become topical again. And it's about the long running issue of opening a second big airport in Sydney.

The incumbent Sydney Airport is desperate to avoid having a second major airport in Sydney, for, you might well think, obvious protect-its-monopoly reasons. The Airport, though, says it has legitimate reasons. Its chief executive recently said that there's no need for a second Sydney airport, as, suitably rejigged and improved, the existing airport can handle all the projected increase in demand. In any event, he said, as reported here, and which I didn't know until he said it, was ''remember, when the time comes for a second Sydney airport, we hold a first right of refusal to develop and operate it". And when I checked it out, I found that the airport's chairman had said the same thing earlier: Sydney "has first rights to operate a second airport within 100 kilometres of the CBD".

As the young folks say when texting, WTF?

Let me be upfront here. I don't have the time or inclination to fully explore the history of what looks like a bizarre policy decision, but I gather that the right of first refusal came as part of the overall package that the Australian Government offered to bidders when it sold Sydney Airport in 2002, and which one Australian travel journalist last year described as "an almost unbelievable lapse of judgement by the Howard government, which negotiated that clause".

That assessment sounds right from a competition and consumer perspective, although the Howard government very likely benefitted in dollar terms from doing what it did. Selling the airport with a monopolising provision attached probably helped to jack up the price the government got (A$4.2 billion, higher than initial estimates) compared to selling it with the prospect of a future competitor in its bailiwick. It's not the first time a government has gone for the money with an asset sale, and banked the higher price you can get for selling off a monopoly.

I suppose you could argue that the taxpayer didn't lose from all of this. The taxpayer benefitted from the high sale price and the paydown of government debt with the proceeds. You could argue that the public got a lump sum, up front, that compensated them for the likely price exploitation later on.

And it's even possible that these pre-emptive rights that Sydney Airport were given were actually part of some bigger regulatory compact (Sydney operates with curfew limits, for example), and that airlines and the general public got some compensating benefit (less noise at night, say) that might have justified this entrenchment of Sydney's market power. It's possible that the knackering of potential competition was worth enough to Sydney Airport for them to have offered some compensating value to its customers, or was fair compensation for other regulatory requirements.

"And then", as George Orwell once said, "you wake up".

Or to go back to the economics again, what you get with this sort of deal is the total loss of the 'dynamic efficiency' benefits of competition. Even if you believed (and it's a stretch, in my opinion) that citizens got enough in the sale price to pay them upfront for being exposed to the pricing and service behaviour of a monopoly, that is a static view. It ignores the innovation and service benefits that the public and the airlines would have got, over time, from two airports competing for their custom.

And if you want to see a real-life example in the industry, look at the budget airlines in Europe and America. Much of their advantage over the incumbent airlines came from a radically different business model, but they were also helped by being able to get good deals on landing charges from smaller, secondary airports. That's the sort of consumer-friendly industry change that you forego when you sign up to Baldrick-style "first refusal" plans.

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