The Best Deal: How Should We Deal with Monopolies?

Listener 22 February, 2003.

Keywords: Business & Finance;

Economists have an ambiguous stance towards monopolies. Is the advantage of being one ‘the quiet life’ (John Hicks) or are they the key to technological innovation (Joseph Schumpeter)? Are the profits they make unfair, or is the problem that they distort the price system? There is a sort of compromise in the view that all businesses seek to be a monopoly, but the competitive process frustrates them. But what steps have to be taken to make sure the competitive process works?

Until the 1980s New Zealand regulated monopolies by a creaky and hardly comprehensive pro-competition legislation, various interventions – most notably price controls, and the public ownership of many of the most prominent monopolies. The view was that often the New Zealand market was so small that a monopoly was inevitable, and any misbehaviour could be resolved by public control.

As a part of reforms of the 1980s, many of the public monopolies were sold off (sometime without any consideration of the competition implications), the interventions were abandoned (with particular attention to removing of artificial barriers to entry) although there remains reserve powers of price controls, and the legislation was replaced by the Commerce Act of 1986.

There was a concerted attempt to neuter the effectiveness of the anti-monopoly provisions of the Act, led by the Business Roundtable which, like an Orwellian pig, grunted ‘public monopoly bad, private monopoly good’, a view based on that there is no need for public intervention because private monopolies are undermined in the long run by technical change. Most economists would broadly agree with the latter proposition, but observe the opportunities for profit and distortion in the medium run are substantial.

There were further attempts in the 1990s. The most outrageous proposal was that anti-competitive mergers should be allowed if they increased efficiency. Every economist knows ‘efficiency’ is difficult to define conceptually, is even more difficult to measure, and that merging companies would promise efficiency improvements which they would not deliver (already a common – and repeatedly broken – promise to shareholders during takeovers). The effect of the proposal would have been to allow virtually all mergers, whatever the public interest.

The New Zealand competitions regime is described as ‘light-handed’ regulation. Basically it involves the removal of all barriers to entry by potential competitors and a reliance on the competitive process unless outcomes are really disastrous. The approach’s strength is that it requires little intervention from the government, so does not have to second guess business.

Its weakness became increasingly apparent in the 1990s (notably from the continuous litigation between Telecom and other telecommunication providers). The most obvious problem is the ‘natural monopoly’ or ‘common carrier’ where market and technological conditions are such that there is only one room for a provider. There is only one phone or electricity line to a house, and each region is likely to have only one port or airport. Because New Zealand’s market is small, natural monopoly type situations probably occur here more than in the economies we try to imitate.

Since 1999 the government has addressed various specific issues with changes in the electricity industry legislation and the introduction of a telecommunications commissioner, while price controls have been proposed for some airports.

But the problem is not confined to lines and ports. Consider the Air New Zealand-Qantas merger. It appears that the domestic air travel system means that there will be one dominant provider. Any other airline is marginal (and perhaps, as in the case of Ansette, unprofitable). The effect of the merger may increase that dominance, and make alternate provision even less attractive. (The same story – perhaps less strongly – may apply to Trans-Tasman and long haul routes from New Zealand.) However the Commerce Commission may allow a merger if it considers the detriment from the loss of competition is outweighed by other public benefits.

But it is also possible the Commission may disallow the merger even though there are considerable public benefits, because our light handed regulatory regime cannot deal with natural monopolies. For instance, it may be that some sort of price control may protect the public from rapacious charging of a dominant corporation in one market, while allowing the capturing the public benefits in others.

In the case of the creation of Fonterra, the government seems to have decided that the Commerce Act would prohibit the merger of the two big dairy companies and the Dairy Board. So it passed legislation overriding the act. That is a perfectly acceptable approach – in the end only the government can decide on major public interest issues – but it was not part of a comprehensive policy framework. As more opportunities for potentially beneficial monopolies arise we are likely to end up with a pragmatic, but Heath Robinson, approach to their regulation, rather than a coherent one which gets the best deal for New Zealand.