LYT-POLICY-NOV 10/20/05 11:25 AM Page 14

REGULATORY AND POLICY ISSUES

WHY REGULATE? LESSONS FROM NEW ZEALAND

JUSTUS HAUCAP AND J. SCOTT MARCUS
The United States Congress is likely to called state owned enterprise (SOE), with the Commerce Act, and to aid
revisit the Communications Act several and the government expected TCNZ enforcement when required.
times over the next few years. A num- to be run “as a successful business” • Finally, under Part IV of the Com-
ber of critics have suggested that the and to be “as profitable and efficient merce Act 1986 the Government can
FCC should simply be abolished in the as comparable businesses that are impose price control on dominant
course of these legislative changes — not owned by the Crown.” firms. These powers have never been
that it is no longer necessary to regulate • In December 1987 the government, exercised, but the threat that they
telecommunications at all. seeking further efficiencies, passed might someday be used may help to
In Europe, an analogous debate mani- legislation to open up all aspects of constrain anticompetitive behavior.
fests itself in a more nuanced fashion. It the industry to competition as of 1
is widely anticipated that telecommunica- April 1989. New Zealand thus became Universal Service — The Kiwi Share is a
tions regulation will gradually become the first country to expose its entire contractual arrangement between the
unnecessary, and be replaced by competi- telecommunications market to full government and TCNZ. While it limits
tion law. This is largely viewed as a migra- unlicensed competition since the early foreign ownership of TCNZ, it also pro-
tion from overarching ex ante (before the decades of the century, although the vides an enforceable mechanism for
fact) prohibitions to more isolated ex post United States, United Kingdom, and obliging TCNZ to meet certain social
(after the fact) responses to specific Japan had each allowed partial com- needs, notably including universal ser-
instances of anticompetitive conduct. petition by the 1980s. vice. Quite important, the Kiwi Share
It is timely to ask: Why do we regu- • In August 1990 TCNZ was privatized. also embeds a provision in TCNZ’s con-
late telecommunications? What might Most countries impose regulation stitution that limits price increases for
happen in the absence of regulation? when they privatize, in part in order to residential access charges (including
Few realize that this experiment has compensate for the loss of political and free local calls) to the rate of inflation,
already been attempted, and the verdict administrative control that previously and residential telephone services are
is in: outright elimination of telecommu- existed, to the extent that market forces required to be as widespread as in 1990.
nications regulation is a bad idea. alone are unlikely to suffice. New
Reformist New Zealand attempted to Zealand chose not to; instead, they Limited Resources — New Zealand
operate with a bare minimum of sector- attempted to deal with the traditional implemented a progressive deregulatory
specific regulation for telecommunica- regulatory needs (addressing bottleneck system for spectrum management that
tions and other network industries; by facilities, ensuring that services are continues to serve them well to this day.
2001 they had given it up, and instead widely available at reasonable prices, The management of telephone num-
implemented sector-specific regulation. and managing scarce resources) through bers, however, has been problematic;
What exactly were the consequences alternative “light touch” methods. Being no specific provision had been made in
in New Zealand? What broke, and why? aware of the pitfalls of the previous the laws. TCNZ considered that it had
What lessons can other countries draw extensive use of direct price and other inherited whatever prerogatives the
from this experience? controls, all governments from 1987 to government previously had possessed.
1999 saw them as a last resort.
FUNDAMENTAL GOALS OF Bottleneck facilities were dealt with by PROBLEMS WITH BOTTLENECK
TELECOMMUNICATIONS REGULATION means of four distinct mechanisms: the FACILITIES
There are three main reasons to regu- application of ex post competition law, Certainly a striking characteristic of
late telecommunications: the imposition of accounting separation, New Zealand’s telecommunications
• To ensure long-run consumer bene- a contractual limit on charges for local industry subsequent to the introduction
fits by protecting society from any telephone services (including the access of competition was the high number of
abuse of market power associated line) through the so-called Kiwi Share legal disputes, almost entirely related to
with bottleneck facilities (see below), and, where necessary, the interconnection terms.
• To ensure that social objectives are imposition of further price controls. Most developed economies with com-
met (e.g., universal services) • Under section 36 of New Zealand’s petition in telecommunications markets
• To provide a framework for the man- Commerce Act 1986, dominant firms seek to address bottleneck problems by
agement of limited resources, includ- must not use their position to restrict subjecting the former monopolists to vari-
ing spectrum and numbers entry to and/or competition in any mar- ous ex ante obligations, typically including
The experience of New Zealand ket. Section 36 arguably applied to most some mix of transparency, nondiscrimina-
demonstrates the shortcomings of such of TCNZ’s services and was argued to tion, interconnection obligations, an obliga-
a lighthanded approach, especially with limit TCNZ’s interconnection charges. tion to make unbundled network elements
respect to bottleneck access and num- • Natural monopoly elements were sub- (especially the local loop) available to com-
bering resources. ject to obligations of accounting sepa- petitors, cost accounting, and (one-way and
ration and the Telecommunication two-way) access price regulation.
NEW ZEALAND 1987 — 2001 (Disclosure) Regulations 1990, which In New Zealand there were no
Prior to 1987, telecommunications services required TCNZ to provide details of explicit ex ante obligations. As previous-
were provided directly by the government pricing of local access related services ly noted, a failure to provide a competi-
— a common arrangement at the time. (including interconnection agree- tor with competitive interconnection
These operations were privatized in a ments), any substantial discounts, and rates would still potentially be action-
series of steps over just four years: financial accounts for local access able as a violation of competition law
• In April 1987 Telecom New Zealand related activities. This was intended (under section 36 of the Commerce
(TCNZ) was established as a so- to provide incentives for compliance (Continued on page 16)

14 IEEE Communications Magazine • November 2005

LYT-POLICY-NOV 10/20/05 11:25 AM Page 16

REGULATORY AND POLICY ISSUES

(Continued from page 14) telecommunications services. In the first

instance the telecommunications industry is
Act). The problem with this approach encouraged to reach commercially negoti-
was that these antitrust cases would ated agreements for access to telecommu-
predictably take years to work their way nications services. However, the Act also
through the court system. empowers the Commerce Commission
The most important dispute took (the general competition authority) to:
place between TCNZ and Clear, a new • Resolve disputes over access to desig-
entrant provider of telecommunications nated services
services, from 1991 to 1996. Briefly, 1 • Conduct pricing reviews for designat-
Clear wanted to pay TCNZ at a rate ed access services as appropriate
based solely on TCNZ’s incremental • Undertake costing and monitoring activ-
cost of providing service to them, while ities relating to universal service, obliga-
TCNZ demanded payment at a rate tions and determine how these costs
reflecting TCNZ’s retail price minus the will be allocated to industry players
costs that TCNZ would avoid by having • Make recommendations as to the pos-
Clear do the customer acquisition and sible desirability of regulating addi-
aspects of the service.2 The difference tional services.
between the two prices notably included: In addition, a Telecommunications
• The economic opportunity cost to TCNZ Commissioner has been established with-
associated with the monopoly profit they in the Commerce Commission, with pow-
would be foregoing by enabling Clear to ers to regulate ex ante certain services.
provide the service in question
• A range of TCNZ overall network costs, CONCLUSIONS
notably including the universal service In response to its experience, New
cost associated with the Kiwi Share Zealand has come almost full circle and
The highest applicable court, the implemented a regulatory system that,
London-based Privy Council, ultimately while still arguably light in many dimen-
ruled that TCNZ’s preferred pricing sions, is more comparable to that of other
approach was permissible but not obli- industrialized nations. The absence of ex
gatory. The New Zealand government ante regulatory powers led to significant
subsequently declared that it was problems regarding access to bottleneck
opposed to the use of the avoided-cost facilities and numbering resources. In the
pricing formula that TCNZ had advo- end, the delays in resolving access and
cated because it had the potential to interconnection problems provided the
lessen competition. 3 The terms finally greatest impetus for the change.
agreed by Clear and TCNZ set access The argument for an end to ex ante
prices at levels plainly below those telecommunications regulation is often
implied by the TCNZ formula. predicated on the belief that telecommu-
In total, it took six years after Clear nications markets have become fully com-
had entered the market before inter- petitive, and that deregulation and
connection rates below monopoly levels liberalization are therefore in the public
were available to competitors, during interest. This view represents, in the opin-
which time the public could not enjoy ion of the authors, a confusion of the
the full benefits of competition. roles of deregulation and liberalization.
Deregulation and liberalization are both
NEW ZEALAND 2001 TO THE PRESENT viewed as highly beneficial, but they are
Dissatisfaction among the public and not the same thing — in fact, they some-
the government with the long delay times have opposite policy implications.
under the previous lighthanded regula- Liberalization is the facilitation of com-
tory regime manifested itself in due petitive market entry. In many instances,
course in the passage of a new Telecom- this implies the imposition of procompeti-
munications Act in December 2001. tive ex ante regulation, rather than the
The new Act provides for a dispute res- elimination of regulation. The most signif-
olution regime for access to regulated icant lesson from the New Zealand expe-
rience is the importance of being able to
apply regulation ex ante where necessary.
1 There were many elements in dispute, includ-
ing non-price elements. BIOGRAPHIES
2 J USTUS H AUCAP holds a Chair in Industrial Eco-
Economists refer to this avoided-cost method-
nomics and Competition Policy at Ruhr-Universi-
ology as the Efficient Component Pricing Rule ty of Bochum, Germany. From 1997 to 1999 he
(ECPR), also called the Baumol-Willig rule was with the Regulatory Policy Branch of the
after William Baumol and John Willig (both of New Zealand Treasury.
whom gave expert evidence for TCNZ). J. SCOTT MARCUS is with WIK-Consult GmbH. He
was recently with the FCC. He is co-editor of
3 Luxton, Williamson, and Kidd, 1996. this column.

16 IEEE Communications Magazine • November 2005