Why the price of copper broadband should be lower

Stuff reports:

An alliance of internet and consumer groups will today launch a campaign claiming Kiwis are paying $12 a month too much for , through a government subsidy for network company .

It’s not a government subsidy. It’s a proposed government law change that would see the price Chorus charges for copper broadband not fall as much as the Commerce Commission has said it should.

Rural Woman and Consumer New Zealand will stand alongside the likes of Internet New Zealand and internet service provider Orcon to launch the “axe the ” campaign.

It will argue that Chorus is effectively being given hundreds of millions of dollars in subsidies on the amount it charges broadband providers for the old copper-based communications network.

The subsidy is effectively from Internet users on DSL broadband packages.

Sources said last night that some members of the consortium had already been placed under political pressure not to publicly criticise the Government’s position.

However, it is understood that David Farrar, the National Party’s own pollster and the man behind the National-sympathetic Kiwiblog, is still a sponsor of the campaign.

I am, and no one has asked me not to be involved. The reason I’m involved is simple – on this issue I don’t agree with what the Government is proposing. This is not a exceptional thing. I blogged at the end of last year a list of over 50 times in 2012 I disagreed with or criticized the Government.

Like most people, I have a mind of my own. I support the Government overall strongly, and agree with probably 90% of what they do. But no-one ever agrees 100% – even Keith Holyoake once said he only agreed with 80% of what his own Government did. Mind you, I imagine Muldoon agreed 100% with what his Government did 🙂

In the Internet space, I have been and remain a massive fan of the policy to roll out to the home to 75% of New Zealanders. It is world leading. I’m in Shanghai at the moment as a guest of Huawei, and talking to them has made it clear very very few countries are taking all the way to the home as NZ is. It’s a great forward looking policy, and I’m proud National campaigned on it in 2008 (Labour did not commit to it), and have implemented it.

I also think they way the police has been implemented has generally been excellent. The regional tenders worked well, and the requirement for open access by regional fibre providers led to the structural separation of Telecom into Telecom and Chorus, which is a huge boost for competition.

Also I very much admire the negotiating skills of the Government, led by then Minister Steven Joyce who managed to get contracts signed for 75% of NZ’s population for under the $1.5 b funding package. That was a pretty remarkable achievement when you consider a similar policy in Australia was budgeted to cost $43 billion!

So what is this current issue, and why am I against what the Government is proposing. It is important to note that the Government has not actually made any decision in this area of copper pricing. They have a review document out for consultation. I hope that the consultation will lead them to decide not to change the pricing principles for copper. Anyway, here’s the background. It is a fairly complex area, so bear with me.

When Chorus was part of Telecom, The wholesale fee for copper broadband products was determined by the Commerce Commission on a “retail minus” basis. Basically they looked at the charge Telecom had for copper broadband, and deducted off their certain retail costs to determine the fair wholesale price. You can argue that the Commerce Commission shouldn’t be involved at all, but the reality is that monopoly utility charges (especially in ) are regulated in pretty much every country on Earth. The Commerce Commission is independent of the Government, and makes decisions based on lengthy hearings of law, economics and engineering. Their job is to be the independent regulator under the Acts passed by Parliament.

Once Chorus was split off from Telecom, a “retail minus” pricing calculation was impossible. So the Government and Parliament changed the law to have the Commerce Commission determine the price another way, a sort of “cost plus” methodology. You look at what the actual costs of the copper network are, the appropriate return on capital and determine the price that way. Part of that involves international benchmarking.

The Commerce Commission did its job and came out with a draft determination that the price of copper broadband should drop by around $12 a month. The draft determination meant, if finalised, that ISPs would pay a lot less for copper broadband service, and with competition you should see fees drop for consumers.

Now Chorus, one can appreciate, didn’t like a draft determination that would see its revenue drop significantly. They, and the Government, have criticized the draft determination. It is important to note that any criticisms of how the Commission has done its job can be made in the consultation on a final determination (which is ongoing), and if people think they have interpreted the law wrongly, then you submit that to them. You can even appeal to the Courts on matters of law. That is how independent price regulation should work – draft determination, final determination, court appeals if necessary.

If people really thought the Commerce Commission had got it wrong, then they’d wait for the final determination, and if necessary take court action. But instead what is being proposed is a law change.

The law change (discussion document is here) basically says that the cost of copper services should be much the same as the cost of fibre services. There are two arguments for this. One is that the cost of a network should be calculated on the cost of the replacement network (fibre) and the other is that you don’t want cheap copper broadband resulting in few people taking up fibre. I’ll deal with those two points in turn.

The Government is quite right that generally the cost of a utility should be priced on the cost of its replacement network. You do this to ensure the utilities have enough money to fund the replacement network. This is how pricing works in electricity generation for example.

However this overlooks the major difference. Chorus have been given a significant Government subsidy through the contract with Crown Fibre Holdings to deliver their portion of the fibre roll-out to 75% of New Zealanders. They now have a contractual obligation to deliver that fibre for the contracted price to so many people. That contract means that the argument you need to price copper at the same price as fibre is not a valid argument, as far as I am concerned.

The contract was signed in the knowledge that the Telecommunications Act was going ot price copper under a different methodology. There was no provision in the contract that Chorus will be guaranteed a certain price for copper.

Now there have been stories of price over-runs at Chorus, and that they basically signed up to deliver the fibre at too cheap a cost, and are struggling to do it. Well, in a nutshell, tough bikkies. And I say that as a shareholder of Chorus.

They bid in a competitive tender for the right to build the fibre network with the Government subsidy (actually a loan). They had competitors such as electricity lines companies also bidding. The lines companies would not have been relying on income from copper to fund their fibre build. They were bidding on income from the fibre services themselves.

If Steven Joyce was such a good negotiator that they bidded too low to win the contract, that is not a good reason to increase the price of copper. If their lawyers were not up to scratch and they failed to get a guarantee of a minimum copper price in the contracts, then again why is that a reason for a law change?

So the existence of the contract means I can’t accept the argument that the price of copper should be based on the price of fibre to fund the fibre network. That argument only holds if they had not signed a piece of paper agreeing to do so, in return for most of the $1.5b subsidy.

That brings us to the second argument, which is should we keep copper prices higher than they would otherwise be, in order to encourage consumers to switch to fibre.

Reasonable people can disagree on this second argument. I’m personally sceptical of it, as I don’t think over-charging people for a product is a good way to encourage migration. I think some people will want fibre and happily pay more for it (like me). Others won’t need it, and having them pay $10 a month more than they have to is unfair. It is important to note that the Government is not looking to put the price of copper up from the status quo. They are looking to change the law so the price of copper broadband doesn’t drop by as much as the Commerce Commission has calculated it should.

But in terms of this second argument, the major problem for me, is that even if you accept there is justification for charging copper users more, to encourage people onto fibre, why would you effectively gift that money to Chorus? Chorus have, again, signed a contract requiring them to establish in most parts of NZ a fibre network. They must build this regardless of the copper price.

If the Government truly thinks it is necessary to have the price of copper much the same as fibre in order to promote fibre uptake, then don’t gift what could be up to $100 million a year to Chorus. Be upfront, and call it a fibre development levy, and have the Government collect it and use it to fund fibre outreach for the 75% of NZ not covered by the current UFB project. It could fund ultra-fast broadband in rural areas, or economically deprived areas.

Note that I am not advocating per se for an Internet development levy. I am saying that if you are determined to have the price of copper and fibre the same, then it is better to have the Government spend that money on actually getting more people onto fibre. If you just allow Chorus to have a higher wholesale price for it than justified under the law, that won’t result in one extra home getting fibre.

So that is why I’m not supporting the proposed changes in the Telecommunications Act Review. Copper users should not be over-charged or taxed to fund the fibre development.

I have no commercial interest in the outcome. I just want what is best for Internet users in New Zealand, and to my mind that is the status quo. I think the major beneficiary of the proposed changes would be Chorus, and I don’t believe in corporate welfare – for Rio Tinto or Chorus.

Technically I am arguing against my own self-interest as a (very minor) Chorus share-holder. But for me it is about the public interest.

InternetNZ is also involved in the campaign, and I am a former office holder and chair their policy group. But that doesn’t mean I always agree with them. On the GCSB bill for example, I had a much more benign view of the law change.

In my role as Kiwiblog, I am a official sponsor of the Axe the Copper tax campaign. It wasn’t InternetNZ that asked me to join. The campaign co-ordinator did, and after reading the campaign proposal, I decided to do so on the basis I agreed with its aims. I am reluctant to join a campaign which is asking the Government I support to change course but I will do so when I don’t believe they are on the right track.

My hope is that the Government will conclude that the status quo (which was put in place by them!) is working, and allow the price of copper to drop to whatever the Commerce Commission determines it should be under the law passed by Parliament. In the cases where we do have price regulation (a necessary evil as I see it), the prices should be set by independent regulators after hearing all the evidence, not by politicians. They should make the law for setting the price, and not second guess the Commerce Commission. If the Commission gets it wrong, their decisions can be appealed in court on matters of law.

UPDATE: A much more readable opinion piece on this issue is at NBR by Paul Brislen.

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