Amalgamate them

We've just had a big report commissioned from Frontier Economics into the workings of our electricity markets, with two peer reviews of its conclusions (one from NERA UK and another from a consortium of experts), and we've had the government's response to its recommendations, plus you might like to read the ministerial press release.

It's fair to say that the overwhelming reaction, including mine, has been that the government response have been too timid. That's not just me moaning: as Bryce Edwards of the Integrity Institute put it in his September 30 newsletter, "What’s striking is how broad the consensus is that these reforms are inadequate. From typically pro-market business voices to worker advocates, nearly everyone agrees the government needed to go much further".

There's one example in particular I'd like to highlight.

Frontier looked at the electricity distribution businesses (EDBs) - or 'lines businesses' as they're sometime called - who are the folks that operate the poles and lines that carry the current from the national grid to your place. New Zealand has 29 of them. On average their charges amount to about a quarter of your electricity bill. Even before all this latest analysis, I'd have argued that 29 is an absurd number for a country our size: it's almost the emblematic dead weight example of high fixed cost overkill.

Unsurprisingly, Frontier said (p112) that "Our key finding in this chapter is that the current electricity distribution industry is too fragmented with too many small EDBs (relative to the size of the country), many of whom are exempt from price-quality regulation designed to promote the long-term interests of consumers. These EDBs are likely to be operating well below minimum efficient scale. This, in turn, is limiting the ability of most EDBs to:

    • Operate and invest efficiently; and

    • Innovate to deliver services more effectively to consumers".

Their recommendation? "The first-best option would be to amalgamate the existing 29 EDBs into a small number (say five) large regional EDBs" (p133), and they even drew a map of what they might look like (see p135). Plus they recommended changes to how these regional natural monopolies should be regulated by the Commerce Commission, arguing (p5) that each should be considered on its own needs: "The implication being that individualised ex-ante price regulation applies to all EDBs. The intention being to ensure that the necessary investment is occurring to deliver the energy transition in New Zealand, and so avoid the prospect of a future bow wave of investment needs and reduced service performance in the interim".

So what did the two sets of peer reviewers reckon?

NERA agreed on amalgamation. "A consolidation and harmonisation of EDBs could achieve economies of scale, facilitate effective regulation and potentially improve quality of service to customers at lower prices" (p21). There's room for debate about exactly how many of the 'Super EDBs' and where they should operate - "Further detail is required on how the optimal number and size of Super EDBs can be determined" (p21) - which is fair comment, but they saw value in the amalgamation idea. They were cooler on the customised price regulation ideas: they weren't so sure that the current system was getting in the way of making necessary investments.

The other review group also were on board the amalgamation bus and drew this handy little diagram (p5) assessing Frontier's main ideas, where as you can see 'EDB Reform' (amalgamation plus the regulatory changes to incentivise investment) scrubbed up rather well. While the group made a general point that you might need to do more tyrekicking about any of these options - "each deserves much more scrutiny and analysis than can be accomplished within the timeframe of the current policy proceeding" (p4) - it said (p5) that "Of the four major proposals, the restructuring and reform of the EDBs strikes us as the most worthy of further consideration, given that it is backed by both qualitative economic logic and some empirical evidence".

Even the government itself said, in its response to Frontier's recommendation, "Agree with the diagnosis", but then said it wouldn't follow through on the idea: "Agree with diagnosis, but not with the forced amalgamation of EDBs. Instead, Government is encouraging greater efficiency and the EA [Electricity Authority] and Commerce Commission are progressing measures to promote greater alignment and innovation". 

It expanded on its reasons here: "Forced amalgamation would be expensive, complex, and undermine local decision-making. Rather than forcibly reducing the number of EDBs, the Government will make networks more efficient and innovative by encouraging greater standardisation and collaboration, strengthening governance and accountability, and improving network regulation".

To be fair, Frontier did have a look at something along the lines of the government's preferred option. Option 3 in its report (p139) "would be to retain the existing 29 EDBs as they are, but require them to coordinate with other EDBs within defined regions to generate better efficiency and operational outcomes", but it concluded (p140) that for a broad range of reasons it was "likely to be the least effective model for rationalisation".

Personally I find the government's rationale unconvincing. I doubt if it would be expensive: whatever up-front one-off restructuring costs are involved will surely be repaid in spades over the years as the current fixed costs of too many, too small EDBs are eradicated. I doubt if it is especially complex: if we can mesh the former separate cities of Auckland into one, we can surely mesh the EDBs. And I don't rate the local decision-making point especially highly. If the choice is between local control and the poles falling down on the one side, and consolidation and uninterrupted electricity supply on the other, and I think that is indeed the actual choice, I'll have the lights staying on, thanks.

Oh no it didn't...

Earlier this month I wrote up the latest slew of competition policy reforms, and mistakenly included one proposed reform that actually wasn't endorsed by Cabinet. 

It's the proposal for the Commerce Commission to be able to initiate Australian-style industry codes. As someone's helpfully pointed out to me, "the proposal for industry codes / pro-competition rules wasn’t agreed to by Cabinet, so it’s not part of the reform package. It’s a very understandable error - the Cabinet paper discusses the proposal in detail, and you’d only spot it wasn’t agreed to if you compared the paper with the Cabinet minute". 

Indeed: the Cabinet minute records what Cabinet agreed to, but is silent on proposals it turned down, and it flagged away Commission-led codes. Bit of a pity, really, as I think codes can fill a useful niche short of full-scale regulation (and this Cabinet is clearly averse to any more sector-specific statutory regulation along supermarket or petrol station lines). Never mind: the correct situation is that it's a non-runner for now.

The other shoe drops

This week's second batch of competition policy reforms, announced jointly by Finance Minister Nicola Willis and Commerce and Consumer Affairs Minister Scott Simpson, was welcome from any number of perspectives. The press announcement is here, there's a useful fact sheet here, and if you missed the first batch I wrote about them here. If you're an irremediable policy tragic, you'll find the Cabinet paper supporting the latest reforms here.

For a start, on the substance, they've made almost all the right calls. 

On mergers, the reforms will amend the definition of "substantial lessening of competition" to extend to "conduct that creates, strengthens, or entrenches a substantial degree of power in a market" (I'm quoting para 19 of the Cabinet paper), which not only helps make it explicit that 'killer' acquisitions are in the frame but also harmonises with Australia's approach. 'Creeping' acquisitions - individually apparently insignificant purchases that cumulatively build up to a degree of market power - also got attention. It appears that it wasn't clear that the Commission could look back at the past track record when considering the latest in a series, but in future it will be able to take the evidence of the previous three years into the balancing act, with the proviso (para 24) that "The Commission will not have new powers to unwind past acquisitions, nor will it affect its existing ability to take action where a past acquisition was independently unlawful".

Importantly, the Commission will now be able to accept behavioural undertakings as part of a merger approval. For no obviously compelling reason, "The Commission currently lacks the authority to accept voluntary behavioural undertakings from merging firms (other than in relation to the disposal of assets or shares). These undertakings are commitments proposed by merging firms about their future conduct and are commonly used overseas, including in Australia and the United Kingdom, to resolve competition issues while preserving potential merger benefits. Feedback from public consultation, especially from the business and legal communities, showed strong support for allowing the Commission to accept these undertakings' (para 28). As a result, "The current gap in the merger regime may lead to the rejection of mergers that could otherwise be cleared with appropriate behavioural remedies, resulting in missed opportunities for efficiencies and consumer benefits" (para 29). It will mostly be up to merger applicants to suggest them, and up to the Commission to accept or reject them (or, I'd guess, have a bit of to and fro).

Whether there are swathes of anti-competitive mergers occurring that haven't been voluntarily notified to the Commission is debatable - New Zealand's a small place, word gets round, and the Commission can read the newspapers - but in any event the Commission is getting two new powers to help cope with any that come along. There'll be "a targeted “stay and hold” power to suspend the completion of a potentially anti-competitive merger for up to 40 working days. This would allow time to assess competition risks before the transaction is completed" (para 33) and "a targeted “call-in” power to require parties to seek clearance if the Commission considers the transaction may substantially lessen competition. This notice would pause the transaction until clearance is granted, declined, or the process is terminated" (para 34). Sensibly, the reforms shied away from a mandatory merger reporting regime.

The Cabinet paper also strongly suggests that the current government is deeply averse to any more single-sector regulation. "Previous governments have responded to competition challenges by introducing repeated sector-specific regulation. Strengthening New Zealand’s overall competition framework will better equip the Commission to address markets with high barriers to entry and expansion, reducing the need for repeated sectoral regulation, such as the Grocery Industry Competition Act 2023 and the Fuel Industry Act 2020. These interventions involved lengthy policy and legislative development processes and have not always delivered the broader, enduring improvements to market dynamics that a more robust and flexible competition regime could achieve" (para 9). Looking, for example, at the data on petrol importer margins (available here), you'd be tempted to agree.

Making the Commerce Act more effective across the board is one answer: in addition, the Commission will get powers to deploy a local version of Australia's industry codes*. "We propose creating a power to make targeted regulations to guide conduct among market participants to break down barriers to entry and expansion" (para 41). The Commission can only regulate when "the market in question is concentrated, whereby market power is held by only a small number of firms; there are barriers to entry and expansion; the market is not working well for consumers, and the proposed rules are consistent with the purpose of the Act" (para 44, slightly abridged). 

Personally I think the further requirement that Cabinet signs off on any Commission-initiated regulatory codes is a step too far. The stated justification is "To ensure this power is used proportionately and only as a last resort" (para 44), and maybe there is a case that democratically accountable representatives ought to sign off on non-elected technocrats getting too heavyhandedly involved in bossing entire industries around. I've noticed, too, when presenting to Select Committees, that some MPs evidently have a fear that an overzealous Commission might go feral. To me, though, it's another example of successive governments' fetish for costly micromanagement: far too many things already have to go to Ministers or Cabinet, and this doesn't need to be yet another one. MBIE, when preparing the regulatory impact statement for these reforms, looked at an 'Option 3': "Commission-issued pro-competition rules – Allows the Commission to develop and implement rules independently, without separate Cabinet approval each time". That was a path not taken, but should have been, and in the fulness of time I'll likely front up to a Select Committee and argue for it.

And then there's predatory pricing. "Allegations of predatory pricing have arisen in the aviation, grocery and building supplies sectors, but enforcement remains challenging. Part of the challenge is the lack of clarity around the circumstances when prices are so low that they breach competition law" (para 51). So the reforms suggest some pricing tests that could more effectively ping predatory pricing under s36 of the Act: "Pricing below Average Variable Cost (AVC) or Average Avoidable Cost (AAC) over a sustained period is presumptively unlawful", and "Pricing above AVC/AAC but below Long-Run Average Incremental Cost (the average cost of producing an additional unit of output over the long-term**) or Average Total Cost (total costs divided by the number of units produced) over a sustained period is presumptively unlawful only where there is evidence of exclusionary intent" (para 53), with some sensible carve-outs: "short-term promotional pricing, including one-off specials, de minimis discounts, or mistaken pricing, are not captured unless part of a sustained pattern of pricing behaviour" (para 55). I have to say, I'd like to have been a fly on the Cabinet room wall when Ministers were confronted with 'Long-Run Average Incremental Cost' ...

Gibes aside, the reform's heart is in the right place, and maybe it'll reduce the scope for judges to see vigorous incumbent reaction to competition rather than strategic deterrence of rivals (yes, I'm thinking of Pink Batts***), but we'll see. As anyone who has been up close and personal with a s36 case knows, it's hard to magick away the complexities. 

There's other good stuff which I'll leave you to explore, but I'd like to add a few words about process.

By recent New Zealand competition policy standards, this has been a quick and effective exercise. While there was a bit of a gap between consultation closing (early February) and the first package of reforms (mid August), and the contents of the first tranche were distinctly modest compared to the range of topics consulted on, the Minister promised that "Further decisions on the merger regime, potential new industry codes, and other changes will be announced over the coming weeks". He - and Nicola Willis - have very largely delivered, though the odd issue, like 'concerted practices', appears to have fallen into a void. 

And between them they had the heft of being able to get an early slot in the always crowded legislative queue: "We propose that the policy outlined in this paper be given effect through the Commerce (Promoting Competition and Other Matters) Amendment Bill, which is at priority category 5 (to proceed to Select Committee by the end of 2025)", which likely means enactment in 2026. Good stuff all round: it's nice to see effective competition being given the priority it deserves. And while I'm in a generous mood, a hat tip too to whoever held the pen on the Cabinet paper: these are complicated issues, and whoever wrote them up did a fine job of making them clear. 

*Update (September 30) - I didn't spot it but in the event Cabinet actually decided not to endorse the industry code idea. See today's post.

**I've deleted an apparently superfluous 'costs' here

***Carter Holt Harvey Building Products Group Limited v Commerce Commission [2004] UKPC 37

It's a start

Last week's competition policy announcements by Scott Simpson, the Minister for Commerce and Consumer Affairs, were some modest steps in the right direction (and a nice little coup for the Competition Law and Policy Institute of New Zealand's annual workshop, where he made the speech).

He was surely right to make it easier for businesses to collaborate where there are likely to be net consumer benefits, given that the Commerce Commission's current authorisation process is "too complex, costly, and slow for business". Authorisation as it is currently practised isn't so much like using a sledgehammer to crack the proverbial nut: it's more like commissioning a squadron of war elephants to trample on it for months.

He also said that "We have also heard in your submissions" - the ones in response to MBIE's turn of the year consultation on 'Seeking feedback to improve competition in New Zealand' - "that businesses and individuals are increasingly reluctant to share information with the Commission because of fears confidential information could be released under the Official Information Act, potentially leading to retaliation or misuse of confidential information by competitors. This is undermining the Commission’s ability to collect evidence and receive useful information, particularly in investigations and merger clearances".

This is something that has been rumbling for a while, and he's done something about it. I can't say that I warm to one of his solutions, to exempt information provided to the Commission from the ambit of the OIA for 10 years, as I reckon we could do with less whiteanting of the Act,  but I suppose it will do the job in its way, and the other proposals (more flexible confidentiality orders, and whistleblower protection) look good ideas.

If I can be grumpy for a moment, I'd like to observe that this concern for confidentiality wasn't so obviously to the fore the last time Parliament looked at the Commerce Act, when in 2021 it introduced s99AA to allow the Commission to share information with "a public service agency, a statutory entity, the Reserve Bank of New Zealand, or the New Zealand Police", contrary to my elegant and well reasoned submission.

What struck me otherwise about the Minister's announcements was how much was still to come. The MBIE consultation was open-ended, but included a questionnaire (which many of us filled in) indicating what they most wanted to hear about. They included "the effectiveness of the current merger regime"; how to deal with "creeping acquisitions" and entrenchment of market power, for example, through 'killer' acquisitions of nascent competitors; whether to align our approach to mergers with the Aussies'; and a big question asking "How effective do you consider the current merger regime is in balancing the risk of not enough versus too much intervention in markets?". MBIE wanted to know whether potentially non-competitive mergers that were not notified to the Commission are an issue, and whether the Commission might need extra powers to deal with them (such as a stay or hold separate power). And MBIE wanted to know whether the Commission should be able to accept behavioural undertakings as part of a merger approval.

Outside mergers, MBIE also wanted to gather views about potential anti-competitive 'concerted practices' and what to do about them, and what role industry codes or rules might play in bolstering the competition regime. And then there were various rats and mice, including whether the Commission's injunction powers need modernising, views on assorted technical and minor amendments, and an open-ended "what else have you got to say".

So it would be fair to say that - six months after consultation closed - the announcements last week dealt to only two of the 11 broad topic areas MBIE canvassed: we've had some baubles, but no Christmas tree. The Minister said that "Further decisions on the merger regime, potential new industry codes, and other changes will be announced over the coming weeks". Given that we've been on the slow side in recent years when it comes to competition policy reform, compared with the Aussies in particular, a quick policy timeframe is good to hear.

Too slow? I don't think so

Ignoring the predictably partisan knee-jerk assessments from the usual suspects, there were two broad camps of reaction to yesterday's Budget. 

One was that it didn't actually do enough to boost growth, its signature objective. The accelerated investment incentive is fine, especially given that part of our productivity problem relates to New Zealanders working with less capital equipment than their counterparts overseas, but it's having to do a lot of work on its own. Yes, there were other Budget things that will help (notably increased spending on infrastructure) but overall it didn't deliver an adequate pro-growth punch.

The other reaction, from what you might term the fiscal 'hawks', was that it didn't move fast enough to close the fiscal deficit. It's easy to ramp up public spending, run deficits, and borrow, but quite a lot harder to cut back, get the books into surplus, and pay back some of the debt: there's a ratcheting effect where public spending boosts tend to be larger than any subsequent windbacks. Retrenching this time round hasn't got any easier: on the Budget projections there's only a minuscule surplus in the fiscal year to June '29, and even if we get there (and a $0.2 billion surplus is well within any margin of measurement or forecasting error) that's still four years away. 

There was probably no way Nicola Willis was going to simultaneously satisfy both the pro-growth and pro-windback camps, and I think it's fair to say that both are far from gruntled.

My own reaction is that, while I'm sympathetic to the general point that we need to rebuild the fiscal books, I think Willis is doing it at what, in current circumstances, is a sensible pace, and the more rabid fiscal hawks should back off.

Why do I think that? Let's look at the 'fiscal impulse' - whether fiscal policy in any year has become more expansionary or contractionary compared to the previous year*. This year I was somewhat concerned that an over-hawkish drive to an eventual fiscal surplus might be too aggressive, and risk further damaging an economy that is still in a somewhat fragile state. I also wanted to see whether fiscal policy was playing nicely with monetary policy: as the RBNZ said at its latest OCR review, there are "downside risks to the outlook for economic activity and inflation in New Zealand", and it wouldn't be the best of ideas to have fiscal policy braking the economy too hard.

Here's what the fiscal impulse looks like (from p67 of the Budget Economic and Fiscal Update, the 'BEFU'). Bottom line, the pace of withdrawing fiscal support looks pretty sensible to me. According to the BEFU forecasts, GDP growth in the current fiscal year to June '25 will have fallen by somewhere between 0.3% (expenditure measure of GDP) and 0.8% (output measure). and by a stonking 1.9% in per capita terms. In those circumstances what has turned out to be a modest fiscal boost makes complete sense.

For the year to June '26, there's a marginal fiscal boost which is macroeconomically speaking irrelevant, and even if it were a bit larger, it mightn't be such a bad idea given the uncertainty around the economic outlook. And then there are three years of moderate but meaningful windback of fiscal policy. You may have your own views, but I can live with that. 

In passing, there were a couple of initiatives in the minutiae of the Budget that I particularly warmed to. If you're interested in exactly what new stuff is planned, by the way, the place to go is the 'Summary of Initiatives' document.

Statistics New Zealand is getting $63.8 million over the next four years which "provides funding held in contingency to deliver eight updated macroeconomic measures by the end of 2030, to meet new international standards and better measure changes in the economy. Funding will also deliver new monthly indicators by 2027 to provide timely updates on economic activity", and another $16.5 million to "deliver a more frequent, reliable measure of inflation by moving from quarterly to monthly Consumers Price Index (CPI) reporting. Data will be collected on a monthly rather than quarterly basis, with regular monthly CPI reporting delivered from the beginning of 2027". We've been falling behind other OECD countries (and indeed behind some poorer non-OECD economies) in terms of the timeliness and range of our macroeconomic data, and this is a long overdue revamp. 

The other was the $130 million allocated to social investment initiatives. 'Social investment' is jargon for social support programmes targeted on 80:20 rule lines to those most in need, and typically delivered outside the traditional one-size-fits-all centralised social welfare spending channels. I wrote a bit abut it here, and I think it's a highly promising and progressive approach. The new Social Investment Fund "will use data and evidence to guide investment in effective, outcomes-focused social services. The Fund will invest in new programmes and in changes that strengthen existing arrangements". The Budget also said that "This initiative also provides departmental funding for the oversight and delivery of the Fund". This may just be a statement of the bleeding obvious, but I also very sincerely hope that it isn't code for the Wellington disease of excessive micromanagement of anything new or different.

*The fiscal impulse can be a bit of a heffalump trap to interpret. Suppose in Year 0 the government is in fiscal balance. In Year 1 it goes into deficit and buys 100 widgets, supporting widgetmakers. In Year 2, it is still in deficit but buys only 60 widgets. The fiscal impulse will show a reduction in the scale of fiscal support, from 100 to 60 widgets. At the same time, while less so, fiscal policy is still supportive: there are still 60 widgetmakers who benefit from the residual purchases.