NBN authorisation and the problem of distorted pricing

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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.

 

6 Responses to "NBN authorisation and the problem of distorted pricing"
  1. But but but … people living in the bush are the salt of the earth, the embodiment of Australia, living a way of life that is spiritually noble in ways you inner city elites could never understand.

    How dare you talk about filthy money in the face of this – it’s like swearing in church. The very idea of asking them pay their way is obnoxious.

  2. Personally, I don’t particularly care whether the NBN’s uniform national pricing is via a cross-subsidy or transparent subsidy model, so long as the pricing is uniform.

    That said, I do believe the cross subsidy is a fairer and more standard system. Electricity, telephone, water, sewer and gas are all operated on a cross-subsidy basis, more or less. Why should the NBN be any different?

    Why is it fairer for a transparent subsidy to be paid by all taxpayers, rather than [a cross subsidy] being paid only by the other users of the NBN?

  3. Stephen, your premise is confusing and also, IMO, wrong. Firstly, you say:

    ” 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.”

    This is looking at this ONLY from the side of the NBN business case. It would be cheaper for NBNCo to NOT rollout and let Optus continue servicing those areas with the HFC….but then these consumers on the HFC get a WORSE service, at a HIGHER price, that won’t be upgraded to include all the people in the footprint- only 400 000 are on HFC and many hundreds of thousands of others can’t be on it- apartments, businesses or just those in streets where speeds are already too low from contention. The ACCC aren’t looking for the best financial outcome- they’re looking for the best outcome for CONSUMERS. Preventing the NBN from rolling out in the Optus area by NOT allowing the deal leaves the consumers in the HFC area with a worse service, that Optus WON’T upgrade, while they pay more money. This is against what the ACCC work for, so of COURSE they approved the deal on that count.

    Next:

    “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…”

    Optus have spent no money on the HFC in over 10 years, other than the DOCSIS 3.0 upgrade of recent. There must be a reason for this….some might say that’s because the uptake is so low, because the prices Optus charge for their cable plans are so high….because they won’t make a profit otherwise….

    This seems to indicate it costs Optus (quite) a bit more than $34 per premises on the NBN, including backhaul and CVC (See Phil Dobbie on ZDNet) to run their network, per premises, as their cheapest naked plan on cable is $59.99 (+$20 a month for 100Mbps)…nearly twice the costs, which I have a feeling is unlikely because they’d be getting 75% profit….or are you suggesting, seeing as this plan is available on copper or HFC, that Optus make MORE money on LSS wholesaling from Telstra on copper (at I believe $32 per residence including backhaul and CVC (equivalent)) and can therefore charge less and take the hit on the HFC, because it costs MORE than the $32 on copper? In which case the HFC is more expensive to run than on the $34 NBN anyway….

    Either way, it appears to me that it WOULD be indeed cheaper for Optus to run on the NBN than on their own HFC. AND if people leave the HFC, say 10% as soon as the NBN passes them, with only 400 000 on anyway, it becomes suddenly substantially more expensive for Optus to provide over their HFC….

    You also say:

    “…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.”

    This idea of NBN prices being so high as to not be able to compete with Optus HFC, makes no sense. Few customers use the 100Mbps “Premium Broadband” option on Optus HFC, but if they did, the CHEAPEST option they have on Optus HFC for 100Mbps is $79.99 ($59.99 naked, plus $20 for “Premium Speed”). The cheapest option for 100Mbps, with equivalent downloads (120Gb) on the NBN is $60 from Exetel (150Gb)…hell, even iinet has 100Mbps and 200Gb for $79.95- same cost.

    Customers can get cheaper plans on the NBN than on Optus HFC….so they’d go with the NBN, not Optus…. The NBN aren’t “massively inflating” their prices. They put up the wholesale cost by a few dollars overall, to ALL consumers via AVC wholesaling(from say $20 to $24 for basic 12/1 or from $32 to $38 for 100Mbps) to ensure the 9 Million premises in the cities can offset the $120 per premises or so it would normally cost to provide the same speeds and data to some of the remotest regions of the fibre rollout.

    The ACCC approved this deal DESPITE the lack of competition from Optus HFC, which would’ve seen the deal as unnecessary because the customers would’ve come from Optus in droves anyway just to save the money, let alone get a better service. They did this for 2 reasons:

    1-Because the Optus deal shores up the NBN business case POLITICALLY- The business case itself is solid and in fact conservative for a GBE, but it ensures the NBN gets the most people, the fastest it can, ensuring good takeup and higher revenues than it would see without these people immediately. This improves the overall business case for private debt equity, better for government to spend less and gives something less for the Coalition to try and poke holes at now.

    2- It KNOWS the NBN is the best deal overall for ALL consumers, so it sees the $800 Million Optus deal, that is REQUIRED to ensure the Telstra deal continues (because that was PART of the Telstra deal- that there must be a binding deal with Optus to decommission their HFC like Telstra have to) as a small price to pay (NOT paid by taxpayers anyway) to ensure the Telstra deal continues, which is INTEGRAL to the success and shorter rollout time of the NBN.

    I don’t understand this “secret tax” you talk about. This is cross-subsidising. As NBNmyths says, it is done in power, it is done in water and it is done in gas. WHY is this any different??

  4. @derrida derider

    That’s an interesting attitude to have. Ok, they’ll pay their way, as long as YOU pay for your:

    Vegetables, wheat, fruit, rice, milk, meat, soy, cotton and any Australian processed foods/products that are made of these.

    If they don’t provide them at a “decent” cost, where else are you going to get them? Farmers are hit every year with price cuts by wholesale buyers who say their “city customers” won’t pay “those” prices anymore. Prices which ALREADY force them to cut any liveable profits in half.

    Turn and turn about- They’ll pay more for broadband if you pay more for everything you eat….happy?

  5. seven_tech – read the ACCC decision! I am just paraphrasing it. And your reason is clearly NOT what the ACCC says.

    dd – I’m not saying that the broadband for the bush shouldn’t be subsidised – that is a political decision. I am saying that if it is subsidised it should be transparent.

    NBN-myths – it has nothing to do with ‘fairness’ but with raising tax revenue at the lowest economic cost and providing appropriate political incentives. Having arbitrary cross subsidies built into prices raises the economic cost of tax collection. In other words, we could get the same benefit to the people in the bush at a lower cost (in terms of tax distortions to economic activity) if we raised money explicitly through the tax system. Second, having hidden taxes means that the politicians avoid electoral accountability. If Australian voters choose to support those in high cost areas via re-distribution (as has been the case for about 100 years under the grants commission) then fine. But lets have an explicit debate – not hide a tax in a uniform price.

  6. >”dd – I’m not saying that the broadband for the bush shouldn’t be subsidised – that is a political decision. I am saying that if it is subsidised it should be transparent.”

    Umm… It’s pretty well transparent, It’s been understood since the policy was released in 2007. Those that don’t understand, haven’t looked into it yet.
    (It made headlines on the news and was one reason the coalition was against it)

    >”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?”

    I can buy a Mitsubishi magna, for $1000 or a VE commodore for $25000 grand. Though 1 is cheaper and the other dearer, you are comparing apples and oranges. 1 is SIGNIFICANTLY more advanced that the other.
    And more suited to today.

    If we use the BETTER analogy of Roads:
    Your potholed main road out of Bourke may be cheaper to drive down if it was tolled.
    But if you replaced that potholled road with a tri carriageway that is also tolled, I would expect that that toll would be incrementally higher.

    If I was to rent out an excavator from Coates hire and I was to get a brand new one, I can suggest that the price would be somewhat dearer than if I hired the old jalopy from say, ‘bob’s’ hire down the road.

    I could repeat the same argument again with rail..

    But then we get to the real point.
    The NBN will be delivered to 100% of the population. 22,620,600 (world bank)

    Optus cable delivers to 400,000.

    What would it cost wholesale if we were to deliver this 400,000 HFC service to 100% of the population?

    It is transparent. Just a bit hidden by those who are are a little twisted by their own viewpoint.

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