NBN: we would have been better off without privatisation

I have (over the fold) a piece in The Guardian, making the fairly obvious point that both the need for a publicly-owned NBN and much of the cost are the result of the decision to privatise Telstra, and to rely on “facility-based competition” to drive new investment.

Add in the failure of electricity reform, PPP toll roads and airport privatisation, and there’s not much in the way of success from the infrastructure reforms of the 1990s. Then, of course, there’s the collapse of the much-feted productivity boom.

And yet Australia is exceptionally prosperous. A little bit of that, particularly in Queensland and WA, is due to the mining boom. But most of it is the simple fact that, by a combination of good luck and good management, we’ve gone 20 years without a recession.

At the coming federal election, voters will be asked to choose between two plans for a publicly owned broadband network. There have been plenty of claims and counterclaims, many of which do not stand up to scrutiny.

Labor’s National Broadband Network, already under way, offers optical fibre connections to most households. The Coalition’s alternative offers ‘fibre to the node’, that is, to a Telstra box in the street, from which the existing copper wire connection will carry signals to our home.

The differences between the schemes are less important than the two great similarities: Both proposals will cost tens of billions of dollars, and both are greatly complicated by the need to work with Telstra’s existing network. These similarities point to one crucial, and largely overlooked fact – the construction of a national broadband network would be much simpler and cheaper, if Telstra had never been privatised.

If Telstra had remained in public ownership, there would have been no need to create a separate entity to make the transition from copper wire to optical fibre, nor to engage in protracted and expensive bargaining about how to connect the two.

As a privatised firm, but still a near-monopoly, Telstra had no incentive to upset the applecart in fixed-line communications. Despite some intense pressure from the Howard government, Telstra steadfastly refused to provide a 21st century network unless it was guaranteed rate of return far above the true social cost of capital.

Telstra’s dominant position was enhanced by the fact that its privatisation occurred at the same time as the rise of the Internet, which converted the company from a carrier of other people’s phone calls to a dominant supplier of internet content through its half-share in Foxtel. The fact that the other half of Foxtel is owned by News corporation has provided the Telstra monopoly with a powerful media arm, which has shown itself to have no scruples about using its dominance to promote its corporate interests.

The hope of those who designed telecommunications reform was that Telstra’s monopoly of the physical telecommunications network would be replaced by ‘facilities-based competition’ in which a range of competitors constructed their own networks. This approach has been reasonably successful for mobile phones, for which competing networks with common geographical coverage make technological sense.

But fixed-line telecommunications is a natural monopoly, like electricity distribution. It makes sense to have just one network in any given area. As a result, our only experience with facilities based competition was the cable fiasco of the late 1990s. Given a period of grace in which they were the only suppliers, Telstra and Optus raced to roll out parallel networks of hybrid fibre coaxial cable, which gave duplicate coverage to about half the country. The rest got nothing. The cable race stopped abruptly once the Telstra-Optus duopoly faced competition from new entrants, most of whom had no option but to resell services using the duopoly network. Even 15 years later much of the country has to rely mainly on DSL technology using the old copper network.

By the time the Rudd government came to office, it was clear that, as with the original public telephone network, the only way we would get a modern broadband system was for the government to build it. The LNP opposition has railed against the alleged wastefulness of the NBN but they have been unable to come up with a private-sector alternative. Rather, their alternative proposal is a cut-down, but still publicly owned broadband network, heavily reliant on the goodwill of the Telstra monopoly.

The failure, and partial reversal, of telecommunications privatisation is part of a broader pattern, observed across the entire infrastructure sector. Privatised firms have often, though not always, done a good job of operating existing assets. However, investment in privatised infrastructure industries, badly misallocated and often totally inadequate.

Private investment can only be secured at rates of return far higher than those that were required when investment was funded by public debt. From the failure to upgrade Brisbane airport, to the collapse of the PPP model for new toll roads, to the huge increases in the cost of electricity, the story has been the same. The privatised infrastructure model presents us with a choice between inadequate investment and high prices. The only solution is a return to public investment.

42 thoughts on “NBN: we would have been better off without privatisation

  1. As a privatised firm, but still a near-monopoly, Telstra had no incentive to upset the applecart in fixed-line communications. Despite some intense pressure from the Howard government, Telstra steadfastly refused to provide a 21st century network unless it was guaranteed rate of return far above the true social cost of capital.

    Nobody else has much incentive either given the way private telecommunications infrastructure gets “declared”. And even less now given the policies of the last six years. Social democrats spend their days advocating and implementing policies that destroy markets and then declaring markets a failure. Vandals.

  2. There is a third way. Instead of using privatization as a tool to maximize government income from the sale of a monopoly asset, privatize with a social contract that includes adequate regulatory oversight.

    I think that anyone who is familiar with the problems of the current NBN will agree that public ownership and operation is not the answer.

    I agree that the history of privatization in Australia is littered with overconfidence in the competition fairy.

  3. An ongoing Telecom monopoly would have been an equal disaster for Australia. It was Beazley I believe that sitting around the Cabinet table beat Keating to sell off part of Telecom as a whole entity, rather than breaking it up into infrastructure and retail/services arms. A disaster. A corporatised but still public infrastructure manager, building mobile towers and other services on contract, for a range of retailers such as Optus and Vodaphone, would have been a great way to go.

    But you say electricity prices – hasn’t Victoria, with the longest period of privatised electricity, got the lowest prices?

  4. JQ,

    It can never be said often enough.

    As is evident from TerjeP’s comment, it is apparently difficult for some people to understand the difference between a the production of a network and the production of a set of tradable and at least approximately divisible commodities with negligible negative externalities that can be exclusively used or consumed by a single agent in the economy.

    This apparent lack of familiarity with the theory of competitive private ownership economies (the knowledge of which would assist in understanding when a belief doesn’t work) shows up not only in the area of infrastructure investment but even in the management of non-government owned and controlled enterprises (eg accountants’ “declaration” on how overheads are assigned to the unit costs of productions in a multi-product firm. The confusion has lately grown to the promotion of ‘internal markets’ where employees are supposed to compete. A possible result is a reduction in productivity in the aggregate.

    Similarly, the so-called third way (privatise and regulate) is a good source of reduction in productivity in the aggregate because it not only creates a lot of ‘red tape’ but also requires duplications of technological knowhow.

    In past posts you made it clear on many occasions that the argument is not pro or anti privatisation but a careful evaluation as to the conditions under which one or the other is preferable.

  5. wilful, I think Victoria’s prices are so low mostly because brown coal is extremely cheap.

    Additionally, Victoria’s pretty compact so the costs of building and maintaining the gri are bound to be lower.

  6. But David haven’t the relative prices of Victorian (private) electricity stayed low compared to (government owned) NSW, from a 1995 benchmark?

    Mind you SP Ausnet’s maintenance failures caused a few billion dollars damage on Black Saturday (and who knows if the SECV would’ve undertaken the maintenance).

    Most of the benefits of privatisation could occur with corporatisation, make them work for a living but have an ultimate recourse of sacking them and starting again. State-owned enterprises seem to be just as lean, innovative and nimble as fully private companies, drawing on private enterprise experience with boards of businessmen, but still have a big daddy to look after them when stuff goes wrong, or to provide a firm guiding strategic hand towards public benefit.

  7. @John Quiggin
    Re Kennett: apparently it worked though ie. they got a good price for those assets compared to subsequent sales in other states (or so I vaguely recollect).

  8. I don’t know how the ACT remains so cheap, but it seems that Vic has remained at worst comparable, at best a bit cheaper than the other states, despite having been privatised for a long time. So, I don’t think that electricity privatisation has demonstrably failed in Victoria, from a consumer point of view. I’m not even sure it’s had any impact on emissions reduction, the NSW government hasn’t done anything much to shut down their generators.

  9. Are the non privatised electricity generation entities run for a profit or break even or is there some subsidisation via the tax payer. Anybody know ?

  10. This opinion does not infer any ideology or political bias.

    In the mid to late 1990s, the Qld State Govt restructured the electricity industry from a mostly single entity to several organisations. From the Qld Electricity Commission (QEC) to several Govt Owned Corporations (GOCs). The QEC generally covered much of the Qld population except for lower level distribution for which responsibility resided in local regional boards. We have now evolved to a state where only a fraction of the overall costs being incurred by the electricity customer is for the actual generation and distribution of electricity. That is the actual work and the systems required to supply power.

    This is supported by the fact that at the time the QEC was replaced by about 10 GOCs. Such as TEC, CS Energy, Stanwell Corp, Enertrade, Ergon, Group Energy Trader, Powerlink, Austa Energy (there were others)
    Upon formation, each one of these GOCs needed to have the following examples of departments. Administration, I.T., H.R., Purchasing, Legal, Finance, Planning (there are others). As a rough estimate I suppose we could look at about 10 of these existed previously within QEC. It then follows that we have gone from that number of 10 to say a quantity of almost 100 ? I am not claiming that the QEC was particularly efficient but as shown above it would have been quite lean compared to the situation today.

    The main issue is the burgeoning management resulting from these changes. Due to the multiplicity of GOCs, we not only have large replications in the number of similar functions repeated over these GOCs but also the creation of new roles. New roles that did not exist before such as; Boards of Directors, CEO, CFO, CIO, Trading, Risk Management, Business Development, Marketing, Sales and so forth. Salaries within upper management and to some degree within middle management are extremely high, not really supportable and a very high burden on users (the customers). Also what tends to occur is a sense of entitlement filters down through the ranks of these organisations resulting in upward pressure on wages meaning further burdens upon the consumer.
    Adding to these expenses were the costs of various infrastructures required to support the new GOCs. Examples are : the initial setting up and ongoing accommodation leasing of separate multiple office buildings for the staff. These offices did not exist before, were all of fairly large footprints and many within the CBD of Brisbane.

    An example in a different industry relates to AllConnex (water) which was disbanded due to the efforts of people power. At the time this was being formed it would have had all the management functions and issues similar to those I mentioned above (Boards, CEO Etc). If it had gone ahead there would have been all the costs involved in building a new Head Office edifice (I think it was on the Gold Coast). I seem to recall that certain dedicated local people caused the reversal of this decision thereby dodging an unnecessary and expensive ‘bullet’ for the residents of Redlands, Logan and the Gold Coast. I believe there was mention of about a thousand homes water bills just to pay for the CEO salary and related expenses.

    If one took yet another industry to compare; it would be Australian Telecommunications. When this industry was initially restructured in the 1980s; the “Rest of the World” was invited to enter and offer to compete. That is; compete against the single entity named Telecom Australia (as it was known as then). The result was the emergence of such Optus, AAPT, Vodafone etc. I think the overall population of Australia is about 5 times that of Queensland. It would have been a ludicrous situation to first break up Telecom Australia into multiple organisations as done with the QEC. If similar had been done as in the Queensland Electricity Industry break up there could have been almost 50 Telstra Corps. If there is no reason to break Telstra up into multiple entities there is even less reason to do the same with such as QEC which is a much smaller entity by a factor of many.

    One other issue to add relates to reduced leverage and loss of economies of scale for expense inputs from service providers and suppliers. An example is the supply of Telecommunications Voice and Data Services. The QEC had a much higher capability in this regard than several small corporations. During the 1990s these kinds of expenses were being driven down through negotiations and leverage available only to a larger entity. These sorts of savings also filter through to end users. Telecommunications providers took advantage of the electricity industry break up to target the new entities individually thus increasing their overall revenues .

    In relation to all the Electricity Retailers.
    One would also consider the above issues to be problematic. That is
    – burgeoning management due to multiplicity of similar functions
    – creation of new roles such as; Boards of Directors, CEO, CFO, CIO, Trading, Risk Management, Business Development, Marketing, Sales and so forth.
    – Salaries within upper management and middle management
    – sense of entitlement down through the ranks
    – costs of various infrastructures required to support and ongoing accommodation of separate multiple office buildings

  11. “NBN: we would have been better off without privatisation.” – JQ.

    Of course we would have been. The determination of what should be handled by public enterprise or by private enterprise is best made on a case by case basis. John Quiggin and Ernestine Gross have made this point. The determination in favour of a public enterprise monopoly often revolves around the issue of natural monopoly and sometimes around issues of strategic national planning (variously of economic, social and even military issues).

    The blind claim that the market can handle everything best (as explicitly and implicitly made by TerjeP over and over again) is pure simplistic ideology unconnected with the complex characteristics and requirements of a real economy and a real society. It is “one model fits all” thinking. The world is always far too complex to “fit” to any one model.

  12. “Australia is exceptionally prosperous. A little bit of that … is due to the mining boom. But most of it is the simple fact that … we’ve gone 20 years without a recession”

    OT, but this really can’t be repeated often enough. The costs of recession are much longer lasting than most macroeconomists think. That, of course, is because they are committed to a mental (at least) model of the economy bouncing around a fixed balanced growth path, so the welfare losses of the bust essentially get made up for in the boom. Well whatever happens to aggregate GDP the welfare losses in fact persist.

    Bruce Chapman has been saying for years, based on solid 1980s and 1990s empirics, “if you want to raise participation, keep wages growing and eliminate long-term unemployment it’s really simple – just don’t have recessions”. And your own recent series on NZ points to how it is mainly MACRO policy that has led to the huge and widening gulf in living standards between Oz and NZ.

    Bluntly, I’ve come to believe microeconomic questions – such as Telstra vs the NBN – are simply not as big a deal as trying to keep the economy on a stable growth path with near-full employment.

  13. @wilful
    The ACT has remained cheap through the simple magic of competition. With no local generator whose profitability it feels obliged to protect it is free to buy from either NSW or Victoria. I understand both “dump” their electricity into this export market (from the States’ POV) at above marginal, but below average, cost.

    It’s the sort of thing a properly working national electricity market was supposed to have achieved, but in fact has only achieved in a few cases (such as the ACT).

  14. The question is, though… if Telstra had never been sold, where would all the super money go?

    Two sides of the same coin: the super pool created a demand for secure-return assets, infrastructure investments that would just sit back and pick up the rent. In a properly-run economy they’d all be in government hands… and you’d assume the money would be too. Government bonds.

    But if you’re going to force people to save money and the best place for them to save it in is government bonds, why not just call it a tax?

  15. PrQ:

    I’m trying to start some proper econometric research on this

    Do a good job and you may get close to winning a Nobel 😉

  16. @john phillips
    The water utilities in the Fraser Coast were put into a GOC a while back. The mayor that did this went on to become a Liberal QLD state MP. 2 Mayors later they notice the council wastes 4 million dollars a year in duplication. The councilors moved to eat the GOC up. The old mayor/current state MP wrote into the local paper for the first time in ages telling the councilors to get their balls back from the council CEO
    About a week later the Newman government comes out of nowhere and declares the council will have to pay 65 million in stamp duty if they want to go through with it.

    To be fair, their reasons to deny it are technically legit, but the legal issue can be changed with legislation. Instead of supporting the council in cutting actual waste the local MPs sit on their hands at best, or speak against it at worst.

    The local GOC does provide a decent service but it is silly that they did not just try to run it better before. Instead there is a GOC sitting there eating up 4 million dollars of water bills for no real benefit over being part of the council, and worse, it can’t be easily reversed.

  17. As is evident from TerjeP’s comment, it is apparently difficult for some people to understand the difference between a the production of a network and the production of a set of tradable and at least approximately divisible commodities with negligible negative externalities that can be exclusively used or consumed by a single agent in the economy.

    The difference isn’t that hard to comprehend. However it doesn’t change the point I made in my opening comment.

  18. @derrida derider
    We are the lucky generation(s) primarily living off the sale of our natural resources and the sale of both public and private assets built and paid for by hardworking previous generations.

  19. the failure of electricity reform, PPP toll roads and airport privatisation

    These “reforms” all provide rent-seeking opportunities but the one I like pointing out is airport parking. What fascists.

  20. And the prize goes MacBank regarding rent-seeking and Sydney Airport (previously KSA):

    Michael West has a more powerful description for what economists call rent-seeking and tax minimisation and he uses blunt words, when he writes:

    “The government should really have just paid those MacBankers a billion dollars in protection money and hung onto Sydney Airport. A contract might even have been drawn up by the prime minister of the day, John Howard: ”We, the people of Australia, pay you, Macquarie, $1 billion upon your undertaking not to deplete the finances of the Commonwealth by your financial engineering.”

    Read more: http://www.smh.com.au/business/sydney-airport-and-the-magical-mystery-tour-20130823-2sha2.html#ixzz2cqNuh41a

    As for rent-seeking and airport parking at KSA, the evidence for this was available before KSA was sold off. (I still have the evidence that competent finance students could detect it without being given a hint.)

    If negative externalities (acoustic and air pollution) would be taken into account, the cost to tax payers (the public) of this privatisation is even bigger than what can be deduced from accounting data.

  21. why do you assume that the government is any more or less competent in a selling an asset, that running it. both are run with the same political interference and soft budget constraints.

  22. Economic rents, if there must be any, should belong to the people in general rather than a small number of ruthless individuals.

    Also, I get the impression that some individuals are far more ruthless at extracting economic rents than governments are.

  23. Would giving telecom its monopoly back solve anything.

    The NBN is a classic outcome of politics and soft budget constraints.

  24. Re: electricity prices, recently we had our voltage supply from the transformer reduced. This was not at our request so I don’t know how the action was instigated but the exercise was worthwhile, for the same period last year a drop in power consumption of ~30%.

  25. Privatisation of Telstra has led to taxpayers having to pay twice for a telco and consumers being overcharged to pay dividends to shareholders.

  26. Rog, are you sure that was intentional. A 30% power drop would require a mains voltage drop from 240 down to about 200. That seems very low.

  27. The voltage was over 240, they are dropping it to less than 240 (I don’t remember the voltage could be 220).

    If it was well above 240 then that makes more sense.

  28. Hi John, forgive me if I’ve missed something, but could you explain how a fibre to the home plan involves Telstra? I though half the reason for it was to finally cut Telstra out of the loop and level the playing field for good. Such a plan ought to completely bypass Telstra’s ageing existing infrastructure, and finally give us a real 21st century network, and remove Telstra’s ability to manipulate the broadband market.

  29. Ben D :
    Hi John, forgive me if I’ve missed something, but could you explain how a fibre to the home plan involves Telstra? I

    Ben D, NBNCo made a deal with Telstra to use Telstra’s pits and conduits (which contain the current copper lines). This cost $11 billion I think. Telstra’s responsible for re-mediating these pits/conduits to allow NBNCo to pull fibre through them. i.e. removing tree roots, blockages, broken pits, etc. Telstra still retains ownership of pits and copper wires. (Turnbull has assumed that Telstra will give him the 215,000 km of copper wires for free)

    So, yes, Telstra is out of the loop.

    Please see “http://stevej-on-nbn.blogspot.com.au/” for lots of details.

  30. The purpose of privatization was to steal public assets in order to make a small number of professional looters (or as you economists call them, “rent-seekers”) very rich.

    Privatization has been highly successful at enriching those professional looters.

    Of course it has made things worse for everyone else. But it was known in advance that it would do so — this is basic economics, the study of monopolies. It is foolishness to imagine that anyone actually thought that privatization would improve things for the general public; people who claimed that were lying through their teeth.

  31. @derrida derider
    “Bluntly, I’ve come to believe microeconomic questions – such as Telstra vs the NBN – are simply not as big a deal as trying to keep the economy on a stable growth path with near-full employment.”

    While I mostly agree, I disagree on one key point:

    I believe that certain microeconomic questions are crucial to macroeconomic policy — specifically, any combination of microeconomic policies which allows rent-seekers to acquire *vast political power* will stymie efforts to have good macroeconomic policy. We’ve seen this in both Europe and the US, and even in New Zealand.

    Microeconomic mistakes which translate into accumulation of political power by a small group of rent-seekers are *very dangerous*.

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