Transcript
Introduction
It’s a pleasure to be here and to have the opportunity to meet your members and chat about what is undoubtedly an issue of great interest to all of us.
Ask any economist whether competition is more important than ownership and despite the reputation that economists have for prevaricating, in this instance, the answer is always the same 'it depends'.
That is, it depends on what you consider to be the ultimate objective and how you achieve that objective. And that’s where you get less agreement between economists.
Let’s assume, for argument’s sake, that there is general agreement that one of the key economic objectives of society is how to boost productivity and GDP growth for the benefit of the society.
Today’s session invites us to ask – whether competition or ownership is more important, from which I take to mean, better delivers this objective.
Competition
We’ve seen a great deal of discussion on the role of competition in the economy, most recently in the context of the Government’s Competition Policy Review under Professor Ian Harper, which you’ll be hearing about more this afternoon, so I won’t spend too much time on it.
But I think it’s fairly safe to say that there is a general consensus amongst all sectors of the community – business, government and consumers, that competition is an essential part of delivering productivity and economic growth and improved living standards.
This was pretty much the conclusion of the Hilmer report back in 1993 and has been confirmed by countless other studies both here and overseas.
We know that competition influences the way in which businesses operate and the choices that consumers make every day and it’s the response to these competitive pressures that drives economic growth and improvements in our living standards over the long run.
Competitive pressures drive cost efficiencies, efficient allocation of resources, and innovation and investment in new processes and products.
This has particularly been the case in telecommunications, water and ports, and to some extent in energy. In some parts of energy and water, competition may not be the main driving force given that many of the utilities are monopoly service providers but I’ll return to this in a minute.
Competition is clearly important – not as an end in itself, but as a means of promoting efficiency for the benefit of the economy as a whole and specifically for businesses and consumers.
I’m sure you are all familiar with the stats quoted from the Productivity Commission reports – that productivity improvements in key infrastructure sectors in the 1990s — that were targeted by national competition policy and related reforms — increased Australia’s GDP by 2.5 per cent.
In short, the evidence strongly supports the conclusion that firms are more likely to innovate if they face stronger competition, and that innovation is associated with better productivity outcomes and in turn, economic growth.
It should therefore be pretty obvious that the objective of competition policy should be to address market failure to enable markets to function better. Competition policy of course has many aspects and much of the work of the ACCC is directed at making markets work better for consumers now and in the future.
Our competition law role is to prevent anti-competitive mergers, stopping cartels, and intervening where we identify misuse of market power.
Our consumer law role is to support a fair market place by addressing misleading behaviour, removing unsafe products, and tackling unconscionable conduct.
Business activity conducted other than under these conditions isn’t really competitive at all and it doesn’t deliver the best outcome for businesses, consumers or the economy.
Ownership
Which then brings us to the more complex question of “does ownership matter?” What is it about ownership that provides the right disciplines and incentives to deliver the broad economic objective I spoke about before?
Much of the discussion of the benefits of private versus public ownership centres on the argument or observation that publically owned businesses are less efficient than private firms. This reflects a number of factors such as:
- the public manager’s weaker incentives to reduce inefficient costs;
- their inability or indifference to respond to capital market disciplines;
- a lack of need to find more efficient production, and lower cost solutions and processes; and
- weaker motivation to innovate or develop the products and services that customers prefer.
Government owned businesses have, perhaps in some cases unfairly, been characterised as inefficient, high cost and lacking commercial focus. The policy response around the world has been to privatise these businesses in a bid to expose them to the disciplines of private ownership.
In general, there is evidence that supports the public versus private ownership discipline contention. However, in my view whilst ownership is clearly important, the existence of appropriate governance is also a key factor in business efficiency and delivery of services, and this is the case irrespective of ownership.
Can I beg your indulgence for just a few moments and revisit some of the work I did back in 1987 when I was an economist in the NSW Treasury. The Liberal Government under the leadership of Nick Greiner had just taken over and had appointed a panel of three private sector Commissioners to conduct an audit of the State’s financial position – the original Commission of Audit.
Amongst the issues we reviewed and reported on was that of government owned businesses and extracting efficient performance. The Commission’s report restated the importance of Governments only being in the business of service delivery if there was an over-riding policy objective and government ownership was the best way of delivering that objective.
In all other cases, consideration should be given to whether it was appropriate for governments to continue to own businesses.
Where governments did decide, for whatever reason, to continue their ownership – and I should stress that in my opinion this is entirely a matter for government policy – then the businesses should nonetheless be managed in accordance with good governance principles. We now have a much fuller understanding of what this means, but in those early days, we referred to this as a process of corporatisation.
This was premised on the view that government owned businesses lacked many of the most important disciplines of the capital markets but that ownership should not exclude or protect them from the principles of efficient, commercial operation.
Operational practices that embedded inefficiencies, excessive costs and uneconomic investments, with old products and too little innovation needed to be addressed. Capital investment decisions needed to be driven not just by engineering capacity but by the financial sustainability of the businesses both in terms of costs and prices.
Return on capital had to be appropriate and cognisant of limited availability and competition for funds. Along with that came the demand for greater transparency and accountability in the spending of money.
The application of these disciplines are generally taken for granted in privately owned firms where the expectations of the owners – the shareholders – drives management to look at prudent and efficient costs, optimal capital investment decisions, trade-offs between opex and capex, how best to manage demand and the factors we usually associate with robust corporate governance.
Whilst these factors are much more likely to drive a private sector firm as it seeks to meet the expectations of its shareholders, they are not exclusive to private firms.
Indeed, from my own experience as a director of one of the NSW water utilities, I can say that government owned businesses with the right governance structure can and do respond to similar factors. There may be circumstances which do limit their full ability to do so, such as universal social obligations, but as we know, these limiting factors are not unique to government owned businesses either. Telstra for example has universal obligations in regard to phone services.
Moreover, the focus on ownership as distinct from having a governance framework that provides the right disciplines and incentives, doesn’t address the issue of monopoly service providers.
Economic regulation
Which brings me to the issue of market failure and the role of economic regulation for both public and privately owned infrastructure services.
So what’s the market failure that we are addressing? In the case of monopoly services, this recognises that competition is not a realistic proposition as duplicating large network assets is generally not economically efficient. Regardless of ownership, monopoly firms or those which have significant market power, have the ability to act in ways that are not necessarily economically efficient or in the interests of longer term economic productivity and growth.
The ACCC and the AER have a range of economic regulatory roles – ranging from monitoring market conditions, approving access undertakings and in telcos, energy and some water services, determining prices for key services.
Access regulation and pricing regimes are directed at addressing the potential for a monopoly infrastructure service provider to deny access to or charge excessive prices for, its infrastructure service. That undoubtedly sounds like an economic regulator’s mantra – and it is.
The aim is to reduce the impact of monopoly pricing on economic efficiency, competition upstream and downstream from monopoly assets, and productivity and growth in the economy.
Many of the regimes administered by Commonwealth, state and territory regulators specifically have as their objective promoting efficiency in the use of, and encouraging appropriate investment in, key infrastructure.
For most economic regulatory regimes, this essentially involves considerations which balance the long term interests of users and consumers, and the need to ensure that service providers recover only their efficient costs, including an appropriate rate of return on their investments.
The factors we look at are pretty familiar to you all so we won’t go into them, but essentially they focus on addressing the same questions that firms exposed to competitive market pressures would ask themselves – how do we provide the right incentives so that the operator of the monopoly asset delivers a product at an efficient cost and price that allows it to stay in business, make a reasonable profit, and keep investing while at the same time keeping customers buying its products.
In my view, providing the right incentives and disciplines for efficient and sustainable outcomes is essential. Whether this is achieved through competition, ownership and governance or regulation, or some combination of the three, will depend on individual circumstances. However, I would stress that it requires an on-going demonstrable and active commitment from governments and industry to a pro-competition culture.
Transition of ownership
Finally, it brings me to the point of the transition of ownership and the likely impact on competition.
At the recent AER/ACCC Regulatory Conference, Kerry Schott, who is actively involved in many aspects of infrastructure provision, noted that regulators are becoming more interested in privatisations. This is likely a reflection on recent statements by the ACCC that in deciding how best to privatise significant infrastructure assets, consideration should be given by governments to likely competition aspects prior to the sale.
Kerry made the observation that the first wave of privatisations, of the various banks and insurance companies, occurred in competitive markets and were relatively straightforward.
The second wave saw significant privatisations in energy, telecommunications and rail freight and were more of a challenge as regulators looked at ways of addressing the competitive and economic implications of such sales.
Many of these industries were restructured prior to sale and are subject to access or economic regulation aimed at addressing competition concerns regardless of their ownership. From the ACCC’s perspective, these were robust processes and led to pro-competitive outcomes.
The Federal Government’s Asset Recycling Agreement is likely to bring the privatisation of publicly owned infrastructure assets increasingly on the agenda. And some of these privatisations may be in relation to infrastructure with monopoly characteristics or industry structures that may raise competition concerns such as the effect of industry consolidation or vertical integration.
I acknowledge that a government’s objectives in optimising the sale process and sale proceeds are an important and legitimate concern of government.
However, we would continue to emphasise that competition must be maintained to ensure that the economy, in all its sectors, has the benefit of economic efficiency, productivity and improved standards of service.
For example, we could expect that businesses with a substantial degree of market power are likely to attract premiums on sale, relative to the case where they are structured in such a way as to maximise competition. However, the longer term benefits of competition are likely to be promoted by separating, rather than integrating, potentially competitive facilities.
The timing of these actions is also important. Where privatisation of infrastructure could give rise to competition concerns post sale, governments should consider the competition implications before the sale and give thought to how appropriate mechanisms could be incorporated into the privatisation process.
Monopoly infrastructure
The practical effects of not doing this are raised in submissions to the Harper Review by key users of previously privatised monopoly infrastructure assets who refer to significant increases in the cost of access being experienced following privatisation. The merits of considering structural separation prior to a sale was highlighted by Hilmer and incorporated in the National Competition Principles. This message was recently reiterated by the ACCC in its submission to the Harper Review.
There are three potential problems that the ACCC believes should be Governments should consider the merits of establishing the conditions of access to monopoly infrastructure prior to any sale process to make sure that access by third parties isn’t hindered, or that competition is not reduced as a result of the privatisation.
This might take the form of requiring the successful bidder to submit a Part IIIA access undertaking to the ACCC and get it approved prior to finalisation of the sale of the asset. This would provide certainty for investors and allow bidders to more accurately assess the risks and costs associated with buying the asset.
Alternatively, the ACCC might assess proposed acquisitions for issues such as the potential for competition to be reduced as a result of horizontal aggregation or vertical integration. These issues may be raised by potential purchasers of assets for clearance by the ACCC before they actually acquire the asset. The ACCC may accept a court enforceable undertaking from the acquirer to remedy competition concerns but I would note, that there are limitations on what can be done through these types of undertakings and what can be expected in terms of dealing with monopoly assets that are to be privatised. For that reason, issues dealing with monopoly pricing and access regulation may best be addressed directly.
Whichever way it goes, it is important that governments engage with the ACCC early in the sales process and factor in the desirability of addressing competition concerns before the sale.
Conclusion
So wrapping up, is competition more important than ownership? On balance I’d have to say it is, but I will fall back on the economists’ prerogative and conclude by saying - neither of them are an end in themselves but a means of delivering long term productivity and economic growth and improved living standards.