Thursday, 12 December 2013

When regulation moves the market

There was quite a useful series of answers to questions in Parliament yesterday - I'm tempted to add, "for a change" - when Bill English was asked about his recent statements about the impact of regulatory decisions (the Commerce Commission's impact on Chorus being the biggie).

When Peter Dunne asked Bill English about the view that his statements could be seen as "code for seeking to nobble the Commerce Commission", he replied, "that is simply not the case. If one thinks of the Commerce Commission as the referee, it applies the rules as it finds them, and we need to do a health check on what the rules are that it is applying". And replying to a supplementary question from Peter Dunne, he also said "The commission will be free to continue as an independent statutory body, as it always should, just as the Government is free to look at the rules that the Commerce Commission applies".

I totally agree. The issue is the rules. There are those who think that the real issue is that the Commission has gone off the rails in how it's been applying the rules: it's not. I can't see that at all.

You might think that I have an instinctive pro-Commission viewpoint, given that I sat on the Commission for over a dozen years, but I'm perfectly capable of disagreeing with it. While I was there, I formally dissented (a rare event) on the Commission's valuation approach to Auckland Airport's asset base, and since I've left I've criticised some statistical jiggery-pokery it was tempted to use in the UBA benchmarking. But on the Chorus process I don't see anything materially wrong with how the Commission went about it, either with process (draft, consultation, submissions, updates on its thinking, clear and logical reasons in its final decision) or with substance. It closely followed the terms and the spirit of the Telco Act.

Incidentally, this morning's High Court's judgement on how the Commerce Commission applied Part IV of the Commerce Act to regulating electricity lines businesses, is also evidence of the Commission playing with a straight regulatory bat (see, for example, 'Vector loses key elements of Com Com challenge' in the Herald).

If you don't want abrupt changes to local regulated prices, then don't ask the Commission to set local prices based on overseas ones that may be much lower.

If you don't want slow, expensive, complicated and uncertain price setting, then don't provide for the cumbersome machinery of the forward-looking cost-modelling exercise.

I emphasise if, because sometimes sharp drops in these prices are exactly what should happen, if (for example) local incumbents have been rorting the local consumer.

John Small in his post 'My Christmas deathwish for TSLRIC' over at his blog SmallTorque comes to much the same conclusion: "So we have hard-wired into the [Telco] Act some very significant risks for both investors and consumers. This is a recipe for very big and expensive fights, not to mention political lobbying around the fringes". I don't enthuse over John's suggested solution out of this position (a simpler version of rate of return modelling), and that's a debate for another day, but I think we're all agreed that if there are predictability problems here, it's not the Commission, it's the Act.

There's also the interesting question about why the Chorus decision appeared to come as such an unpredicted shock, when the Commission was following a publicly transparent requirement with a methodology that had been over the fences a few times already, as Clare Curran asked at Question Time.

Bill English said "That is actually a very good question from the member" - I agree - and went on to say that "It is a bit of a puzzle that sharemarkets, which are normally quite good at evaluating probabilities around price tracks, for instance, clearly got it wrong in this case, and maybe everyone else did as well. That is really the main reason why we are interested in doing a health check".

It's easy to point the finger with hindsight and say that people should have seen some pitfall looming - we'd all be rich if we had a dollar for every eventuality we never saw coming - but there's probably some truth in the view that investors and their advising analysts were more concerned with the operational side of the Chorus build (rollout costs, likely UFB uptake, and so on), and to some degree took their eye off the regulatory aspects.

As things have played out, the decision to get the Productivity Commission to look at 'Regulatory institutions and practices' is now looking more and more timely. And if they were to some degree blindsided before, it's clear that businesses and investors have been wising up to the potential ramifications of regulation, and have been putting in extensive submissions on the issues, which I'll cover in future posts.

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