Wednesday, May 30, 2012

Build the NBN if you must, but please don't destroy working assets

Wednesday column

The Optus high speed cable internet network is a national asset. Comprising 25,000 kilometres of coaxial cable strung across 550,000 poles in Sydney, Melbourne and Brisbane supported by 7000 kilometres of fibre the provided Telstra with its first genuine competition, putting its own wires direct into half a million homes.

Telstra fought back with FoxTel, Optus got burnt and has probably never recovered the cost of stringing the cables. But from an economic point of view what’s important is that the asset exists. Its costs have been sunk. What Optus has now is an asset that costs relatively little to operate and can deliver peak download speeds of 100 Mbps - far faster anything on Telstra’s copper wires.

Right now it has 496,000 customers. It is within connecting distance of another one million meaning that for very little cost Optus or a buyer of the network could provide a very fast very cheap internet service to as many as 1.4 million households - a service far faster than ADSL.

Only a vandal would destroy such an asset. Only a seriously confused regulator would allow it happen.

NBN Co has asked the Australian Competition and Consumer Commission to let it pay Optus a reported $800 million to shut the network down. The only precedent for the destruction of infrastructure on such a massive scale is the $4 billion NBN Co is to pay Telstra to rip out its copper network, transfer its customers to the national broadband network and remove the internet from the cables it uses to deliver FoxTel.

In no other industry would the ACCC approve such an agreement not to compete. In no other industry would it countenance a bribe to decommission working infrastructure.

Mid last year it approved the Telstra deal. This week it published a draft decision approving the Optus deal.

In terms of national assets the Optus decision is arguably worse than the Telstra decision...
Telstra will decommission its copper phone lines street by street as the NBN cables are switched on. While there will be a loss of competition, copper probably isn’t able to compete with fibre over the long-term. By contrast the Telstra and Optus coaxial cables are as good as new. They were strung up in the last half of the 1990s. They are already fast and capable of being made faster. They cost almost nothing to maintain. They are something that should not be destroyed wantonly.

The Telstra coaxial cables won’t be. It has only agreed to disconnect the internet from them. It could put it back as soon as changed legal or political circumstances allow. The Optus coaxial cables are scheduled for destruction. The ACCC’s decision will have physical consequences. It should not be taken lightly.

And yet the ACCC gives every indication that its decision could have gone either way. It was “finely balanced”, according to chairman Rod Sims in Monday’s statement.

Its decision to approve the agreement was based on weighing carefully “clear public benefits” against “a potentially large but less clear detriment”.

The main “clear benefit” is odd. The Commission says the agreement will “avoid the cost of operating the Optus network to provide a service the NBN is also able to provide”. Would we apply it elsewhere? Should Virgin shut down its airline network to avoid the cost of operating a service Qantas is also able to provide? Should Woolworths shut down its network to avoid the cost of operating a service Woolworths is also able to provide? Of course they shouldn’t. We normally value competition.

Some will argue that wiring up houses is different. Frontier Economics, the consultant used by Optus in its submission to the ACCC says fixed broadband services are a natural monopoly - they shouldn’t be provided twice. But Optus cable network is already in place. It costs next to nothing to keep it in place. It is NBN Co which is planning to duplicate it. Given its plans and the rate at which it is duplicating infrastructure right now, its complaint against “inefficient infrastructure duplication” is simply strange.

In truth is competition that worries NBN Co, not inefficiency. It is paying $800 million to remove a competitor, not out of a public concern about inefficiency.

With its last big fixed line competitor out of the way the only market restraint on its prices and quality of service will be wireless internet, and it’s on to that as well.

The Optus agreement given a preliminary tick by the ACCC prevents Optus from advertising wireless data services within the area served by its existing cables in a way which is “expressly critical of or makes any express adverse statement about the performance or functionality of the NBN where such a statement is misleading or deceptive or involves the making of a false or misleading representation in contravention of the Australian consumer law”.

The ACCC waived it through because it essentially meaningless, requiring Optus to do no more than obey the law. But it indicates how deeply concerned NBN Co is at the prospect of competition, or as it puts it “cherry picking”. Competition would force it to provide value, and its national pricing structure would force it to provide it to all Australians. Its $36 billion cost base won’t allow it. That’s why it needs to destroy perfectly good working infrastructure. It’s why I think the ACCC needs to think again.

In today's Sydney Morning Herald and Age


ACCC Authorises NBN CO Optus HFC Subscriber Agreement


"Optus is being paid $800m to shut down a tax-avoidance scheme"

The ACCC has authorised the NBN-Optus deal. So where do the public benefits come from? As background, remember that the ACCC can only authorise an otherwise anticompetitive agreement if the public benefits outweigh the public detriments. I have previously expressed my skepticism about this.

So where are the benefits? The Box 1 on page 27 of the decision has the answer. And it illustrates the problem of the hidden cross subsidies built into the NBN.

Suppose that the cost of providing broadband services to Optus’ broadband customers is lower on the NBN (formally, incremental costs are lower) but for some reason the NBN charges Optus (and other broadband retailers) a wholesale price that exceeds Optus’ own incremental cost. Then, in the retail marketplace, Optus will undercut the NBN and keep its customers despite it being cheaper to service them on the NBN. Hence, the customers must be forced to the NBN to achieve the incremental cost savings (albeit at the cost of creating an allocative loss as the end users face higher prices).

So the question is – why is the NBN charging a wholesale price that is so high that it can be undercut by an inefficient competitor? The ACCC give two reasons. First, that the NBN must recover its fixed costs (which presumably Optus have written off). Unfortunately, if this argument is correct it undermines the benefit test. If, taking new investment into account, it is less costly to continue using the Optus network then the best outcome would be to not role out the NBN in areas covered by the Optus network. Of course, this is what the NBN is threatening, so taking the NBN at their word, if the fixed costs of the NBN rollout eliminates any incremental cost advantage, then the agreement should not be authorised and Optus can service that part of Australia. Of course the ACCC may not believe the NBNCo …

The second argument is more convincing. Excessive pricing by the NBN. It is cheaper to provide services to the Optus customers using the NBN but the wholesale prices that the NBN will charge are so over inflated that this cost gain will be more than eaten up by the NBN monopoly pricing in the Optus service regions. In this case, the Optus customers must be forced onto the NBN to save the relevant costs, albeit to then be exploited by the NBN monopoly pricing.

Now normally the ACCC would roll around the floor laughing if someone put this sort of argument to them. However, in the case of the NBN, monopoly pricing in city areas is necessary to create a uniform national price. The city will subsidise the bush. So the monopoly pricing is really just a hidden tax and, of course, the customers must be forced to pay this tax.

So in brief the ACCC has authorised the NBN-Optus deal because (a) it believes that the cost of servicing the Optus customers is cheaper on the NBN and (b) it can’t be left to the market to sort this out because the NBN prices are so inflated by a hidden tax that the Optus customers would probably stay with Optus.

Hmmm. So Optus is being paid $800m to shut down a tax-avoidance scheme?

Well, that is what happens when you get bad policy. I have no trouble with a uniform national broadband price. But have the NBN set prices to reflect cost. And then provide a transparent subsidy to those consumers who the government believes should receive a lower price. Don’t hide the tax – it just leads to problems like that faced by the ACCC.

RELATED READING: Why the ACCC should NOT authorise the NBN-Optus arrangement
Former ACCC Commissioner Stephen King

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