October 12th, 2004

One of the first items of business, once the government gets effective control of the Senate (or perhaps earlier) will be the full privatisation of Telstra, ending nearly a decade in the limbo of part-privatisation. Having argued repeatedly that partial privatisation is the worst of all possible worlds and with Labor having dumped my (and Lindsay Tanner’s) preferred option of renationalisation and divestiture, I can’t really complain about this. However, the privatisation process will show some of the reasons why privatising Telstra is a bad idea[1].

The first problem is the fiscal impact. There’s a lot of silly talk about using the proceeds of the sale to fund all manner of current expenditure or tax cuts. I thought it had been generally realised by now that selling income-earning assets and spending the proceeds is just the same as running deficits – that’s why asset sales are excluded from measures of the ‘underlying’ cash deficit.

Slightly less silly, and likely to be influential in persuading various reluctant parties (Nats, FF, Democrats) to support the sale is the idea of undertaking various infrastructure or environmental investments ‘funded’ by the sale. At least, unlike tax cuts, the investments should leave the government’s net worth unchanged. But if they are good investments, they should be undertaken regardless of whether Telstra is sold. And in most cases, they won’t return any flow of revenue to governments to offset the loss of Telstra’s earnings.

The core issue in assessing the fiscal impact, though is whether the interest savings from using sale proceeds to repay debt can compensate the government for the loss of Telstra’s earnings. These earnings have three main components: dividends, the associated imputation credits (a claim on the government) and retained earnings. Two years ago, I estimated that the break-even price for the government was at least $6.70. The government, incorrectly, ignores retained earnings and imputation credits, and it appears to have a target price of around $5.25, compared to a current share price of about $4.70. Even on election night, Minchin was talking about pushing legislation through the Senate allowing a sale, then waiting for the market to generate an adequate price.

The next and related problem is the conditions under which Telstra is sold. Given the nasty arithmetic, the government will be keen to set conditions that yield a high sale price, and these will generally be bad for consumers, bad for competition and bad for Australia in general. The two big questions are the regulations governing pricing and access for the telephone network and whether Telstra will be permitted to continue as a media player, possibly acquiring newspapers and TV stations.

My guess is that Telstra will be privatised in its current form, without divestiture and with fairly light-handed regulation. The result will be the most powerful private monopoly in Australia’s history, with close ties to the Liberal party, and media outlets devoted to pushing its interests. The closest comparator I can think of is Berlusconi’s Italy. While there are obvious short term benefits to the government in this, I think there will be a big price to pay in the long run.

fn1. More generally, as Nick observes here, the government may find control of the Senate a mixed blessing.

Categories: Metablogging, Oz Politics Tags:
  1. October 12th, 2004 at 07:27 | #1

    Telstra are already getting into real estate magazines.
    The three-year campaign to discredit Howard is already paying dividends interms of political accouuntability and media diversity. There will be no stopping them now.

  2. still working it out
    October 12th, 2004 at 08:35 | #2

    We are already years behind other nations in the take up of broadband internet services, particularly those in our region. Our mobile phone rates are high by world standards and line rentals are just ridiculous and an unnecessary burden on those on lower incomes. Basically our communications services seem to be over priced and slow to grow into the critical new area of broadband.

    I read through your plans for Telstra and they all seem to make sense but there did not seem to be anything addressing the fundamental problem of Telstra’s monopoly position in communications. Is there any way the Australian public can get a better outcome? Is there any policy that can either get us some real competition or get better value and infrastructure from Telstra?

    Communications infrastructure is so critical to just about every avenue of further economic growth that it seems strange we are prepared to put up with such poor outcomes. But on the other hand, short of fairly massive government interference or the rather dubious policy of breaking up Telstra into smaller competing units I cannot think of anything we can do. Can anyone else think of something that might work?

  3. Uncle Milton
    October 12th, 2004 at 09:16 | #3

    John, nothing to do with Telstra, but what do you think of Prescott and Kydland getting the Nobel Prize in economics?

  4. harry clarke
    October 12th, 2004 at 09:21 | #4

    John, There are, or were, three options for Telstra

    (i) Partial privatisation with the majority shareholder, the government, having the whip hand.

    (ii) Complete privatisation with regulation by the public sector. It must be regulated.

    (iii) Renationalisation.

    Given that much of Telstra is a natural monopoly I think there are some arguments for (iii) but as you acknowledge this isn’t going to happen. So the feasible choices are (i) and (ii).

    I don’t see why you go for (ii). If you are concerned with regulating from a social viewpoint doesn’t maintaining majority ownership give you more power to do so. If the argument is that government ‘interferes’ with commercial decisions of Telstra on political grounds then it can do this also, if less perfectly, with regulation. But this ‘interference’ argument doesn’t make sense for commentators with your perspective since you really want it nationalised where such influences are stronger.

    Its an academic argument since Telstra will probably be privatised fully anyway. But I still don’t understand the opposition from commentators such as yourself who presumably seek a more social benign institution. What’s the relevant theory behind your argument?

  5. Uncle Milton
    October 12th, 2004 at 09:43 | #5

    Harry, the problem is that Telstra won’t be properly regulated, at least not by this government. As well, Telstra is in bed with the Packers and the Murdochs in their joint venture, Foxtel, so we’re not going to get a lot of media scrutiny of what the 900 pound gorilla monopoly is going to do the telecommunications sector.

    Combined with the imminent change to the cross media laws, we may well see one company, or one coalition of companies (Telstra/Murdoch/Packer), controlling the lion’s share of the commercial media and telecommunications sectors, which the techie gurus keep telling us are converging into one big industry in any case. A down under version of Berlusconi’s Italy is not far fetched at all.

    There’s no time like the present for the Labor Party to make a clean break from its past and say that they will not oppose Telstra’s privatisation provided it is broken up into its core infrastructure and retail components. This is perfectly economically rational, will protect consumers, and handled correctly, will be be good politics to boot.

    To do this, Labor will need to shakeoff two of its shibboleths, anti-privatisation and anti break up (the latter dictated by the communications union). This will be painful but as I said, Labor needs a clean break if it is ever to become electable.

    Labor can also get some business allies on this – those parts of telecommunications and media industries that stand to get to get crushed – Channel 7, Channel 10, Optus, Vodafone and so on.

  6. David
    October 12th, 2004 at 09:56 | #6

    Uncle Milton,

    you wrote:

    “… provided it is broken up into its core infrastructure and retail components …”

    which one of those would remain in public hands? presumably the infrastructure? or are you suggesting two privatised telstras, one wholesale the other retail?

    personally i cant understand why anyone would oppose keeping the network itself (ie the PSTN etc – and yes I know it’s degraded) in public hands – it’s ours for freak’s sake! selling off the network would surely complete the dog’s breakfast we’ve already seen happen with the duplicated cable networks?


  7. Alex McConnell
    October 12th, 2004 at 10:09 | #7

    With Telstra fully privatised it will be much less protected from forces wanting to bypass its infrastructure altogether by using wireless, new fibre networks, reticulation through power networks, etc. Smaller providers have a natural advantage in getting into these areas because they are not as huge and bureaucratic as Telstra. Telstra’s recent record of management decision making isn’t so hot either.

    If the Government tries to protect the Telstra copper network by regulation, it will be blatantly favouring one commercial interest over another. That may make for some very interesting times. You can envisage media interests like Seven and Ten weighing in on this, especially if they are also getting a raw deal in the media area.

    Telstra could well end up being beaten back into areas where replacement of the copper infrastucture is not viable because of low revenues (the bush, poor outer suburbs, etc.) Presumably there will be some “universal service” levy on all telecommunications providers under this sort of scenario and Telstra could end up being almost totally dependent on that income stream.

  8. October 12th, 2004 at 11:06 | #8

    The biggest potential problem in my opinion is the possibility that the government will act to increase the share price instead of creating the best regulatory framework.

    Unlike Q, I don’t think the government should manage a share portfolio… even if they currently have some good shares.

    And while I think tax cuts are just as good an ‘investment’ (the word is used so liberally these days I may as well join the bandwagon) as the environment or infrastructure… I would simply prefer the government to simply give Telstra away for free. This avoids conflicts of interest regarding regulation and the sale price, it avoids the proceeds being wasted and it shows people that the reason for privatisation is not the money you get, but the better management. If that option fails… then the money should be used to retire debt.

    The reduction in government revenue could easily be covered by getting rid of the Department of Industry.

  9. Homer Paxton
    October 12th, 2004 at 11:16 | #9

    the point of privatisation is to get the most efficient allocation of resources.

    government ownership distorts this process.

    Unfortunately if you sell on price reasons re Thatcher you are committing the same offence.

    Private moopoloies distort resource allocation as much as public ones.

    The government should be aiming for the lowest price in terms of selling or try the Tanner solution

  10. stephen
    October 12th, 2004 at 12:28 | #10

    first, a technical point on how the sale will affect net worth. If the proceeds are used for current consumption expenditure then net worth declines, this everyone agrees on, and it is unlikely to happen. If the proceeds are used to purchase non-financial assets (eg physical goods owned directly by government) then they will likewise have a negative impact on net worth -unless the accounting standards are changed. This latter point is not generally understood, it is assumed that all assets show up the same way in the books: not so. The only way the sale will have a neutral effect is if the proceeds are used to either retire debt (ie a reduction in assets is matched by a reduction in liabilities) or if the proceeds are used for the purchase of financial assets.

    The likely outcome is a mix of some repayment of debt where cost effective, and a repurchase of financial assets in some form (I predict creation of a new government business enterprise or two). There won’t be a full allocation to paying off debt because this would be a) strongly opposed by the bond markets and b) increasingly a bad deal for government because it has to pay a premium for paying off debt early.

    second, on the more general point, I agree with Harry that the ideal outcome is full privatisation with a genuinely pro competitive regulation regime. It is certainly the case that part ownership has hampered the ability of government to regulate effectively – Telstra is ready to pounce on any regulation it dislikes with the line “this is oppression of minority shareholders” (prohibited under the Corporations Act 2001). The claim of oppression is rarely true, but it scares the horses. This incidentally is why majority share ownership does not actually in practice give the government as much control as might be desirable for other policy ends – and why part ownership does not substitute for regulation.

    Unfortunately, the greater the extent of real competition the lower the price the government will be able to realise – its short term incentives are therefore pulling it towards a poor regulatory outcome. I suspect it also sees some political advantage in driving up the price through lax regulation so as to benefit Telstra shareholders, especially those who bought in T2 and have regretted that decision since.

  11. Uncle Milton
    October 12th, 2004 at 12:30 | #11

    David, I’d be content to see both the PSTN and Telstra retail privatised. But the PSTN company would have to be regulated, because it would be a near monopoly.

    Alex, the point of regulation would not be to protect the Telstra copper network. It would be to protect consumers from gouging by the monopolist.

    I’m not convinced that Telstra faces any sort of competitive threat on its copper network from wireless or any other new technology. As the incumbent, Telstra has a huge advantage, and there is nothing to stop it using that advantage to beat off new technology competitors, by subsidising its own new technology networks. This is what it has done with broadband and this is why it has to be seriously regulated for years, maybe decades, to come.

  12. John Quiggin
    October 12th, 2004 at 12:44 | #12

    Stephen, my impression was that non-financial assets were included in the accrual accounts, but you’d know better than me. Or were you just talking about the GFS accounts.

    In any case, whatever the accounting standards say, they are assets in an economic sense and should be treated as such.

  13. Robert Merkel
    October 12th, 2004 at 12:58 | #13

    I’m not convinced that Telstra faces any sort of competitive threat on its copper network from wireless or any other new technology.

    Believe it. Have a look at iBurst technology. It’s not price competitive with ADSL yet, but the technology will get a lot cheaper and better over the next few years.

  14. Uncle Milton
    October 12th, 2004 at 13:13 | #14

    Robert, for at least 10 years we’ve been hearing about these technologies that are going to be make the copper network redundant.

    The problem has always been they while tthe technologies been technically great, no one has figured out how to make any money from them.

    Or the threat is real and Telstra extinguishes the threat by buying out the company.

    Seeing is believing. And what I see is Telstra which is as dominant as it has ever been.

  15. October 12th, 2004 at 14:16 | #15

    Uncle, have a closer look. There are a bunch of companies selling this in Sydney right now, and they’re selling broadband, wireless internet at costs in (roughly) same ballpark as ADSL. If you factor in the $30/month line rental that you have to keep paying if you have ADSL (that’s redundant for many young people) it starts to look pretty close to the mark – and it’ll get closer.
    As to your claim that Telstra will buy the company out, it’s possible. But there’s nothing to stop Optus, Hutchinson, or one of the other mobile telcos from using part of their frequency allocation for the exact same service.
    By the way, you’re absolutely right on what Labor should do – if Telstra is to be sold, it should be sold off in bits.

  16. October 12th, 2004 at 14:33 | #16

    The stock market greeted the Coalitions return with relish. There will be the mother of all gravy trains coupled to the financial sector when the final tranche of Telstra is floated.

  17. gordon
    October 13th, 2004 at 09:58 | #17

    As JKGalbraith noted somewhere, “The trouble with competition is that, in the end, somebody wins.” The problem with efficient telecommunications is not how to get more competition, but how to regulate.

  18. harry clarke
    October 13th, 2004 at 13:28 | #18

    I still don’t understand John why you favour complete privatisation over partial privatisation. Generally I agree with Fels/Brenchley (AFR today) that this will make Telstra ‘more of a bully’.

    Uncle Milton’s line sounds more plausible –separating Telstra into service and carrier companies, perhaps forcing it out of FOXTEL and then privatising. Without these changes aren’t we better off with the status quo.

  19. October 13th, 2004 at 21:40 | #19

    As I alluded to a few days earlier, I had prior to the elections, worked hard to add material to the anti privatisation web-site:

    It includes a generally excellent article reprinted from Dissent magazine ($7.70 at newsagents), reprinted with their kind permission at:

    … as well as various material in relation to the recently concluded (and very manipulated) election. Of course it now needs further updating. In relation to the silly talk of using funds for such things as environmental repair, we have covered it in a few places including:

    Can I just say, I don’t think the issue is finished, and even if Telstra is privatised, the Government can be made to pay a very heavy political price for this act of economic and social stupidity.

    Any feedback (critical or otherwise) will be most welcome. We do’t have forum facilities, but I will be happy to put the content of any e-mail I receive on the site.

    James Sinnamon

Comments are closed.