Initial Pricing Principle

The Commerce Commission is coming in for considerable flack
for its role in determining the price of Chorus’s wholesale service and it’s
worth reviewing what the Commission is required to do and why it’s doing it.

The Commission is governed by several acts of parliament not
least of which is the Commerce Act itself, which has been since 1986 and has
flaws enough but which allows for the creation of the Commerce Commission

A relatively new part of the Commerce Commission is the
Telecommunications Commissioner’s role, something which was created in 2001 to
oversee the telco sector in New Zealand. Prior to that, we had no industry
specific regulation, no regulator and for those of you with a long memory, no
real competition in the market.

The Telco Commissioner was required to conduct periodic
reviews into a number of areas, one of which was the price Telecom charged its
competitors for using its network. This service, unbundled bitstream access
(UBA) was assessed on a “retail-minus” basis. That is, Telecom told the
Commission what its various retail plans were, the Commission took an average
number from those plans, removed a margin and presented Telecom with its
wholesale price. This price was reviewed regularly but generally speaking it’s
been the primary product most ISPs in New Zealand re-package and sell as their
own broadband service.

In effect, for many years we had no choice but to buy the
Telecom product, either from Telecom or from an ISP that simply changed the
name and re-sold the same product.

I’ve long argued that this isn’t wholesale per se – it is in
fact resale. The ISPs had limited control over the product, couldn’t specify
changes they’d like to see introduced, couldn’t really differentiate at all.

In 2010 the newly appointed Minister of Communications
Steven Joyce introduced a new version of the Telecommunications Act (the third
in a decade) as part of the sweeping changes the government would be
introducing. The main plank of the policy was the introduction of the UFB
project and the promise of government funding to any provider that built the

The minister also introduced a Supplementary Order Paper
that added in a few caveats including the infamous regulatory holiday for the
company that built the UFB, but as part of that SOP the Minister also required
the Commission to do two other things: firstly, to average the price of
unbundled services between rural and urban New Zealand (previously we had two
prices) and to stop this constant round of assessing the price of wholesale service.

The Minister ordered a change to the “initial pricing principle”
(IPP) which governs the way the Commission must assess pricing. Out went retail
minus and in came “cost based” pricing. To quote from the Telecommunications Act itself (Part 2 –
Designated Services):

Initial pricing
Benchmarking against
interconnection prices in comparabl countries that result from
the application to networks that are similar to the access provider’s fixed PSTN of— 

(a) a forward-looking cost-based pricing method

Bearing in mind this is in the law itself – there’s no room
for the Commission to say “we don’t think this is a good idea”. Far from it –
the Commission has expressed its concerns about retail-minus as a model for
many years, as has TUANZ. The ability for any incumbent to game the system by
introducing a handful of very expensive plans and so skew the average was
always too much to endure and we saw ISPs complaining bitterly that some of the
retail plans Telecom offered were priced below the wholesale cost to its

As I said yesterday, there’s no way to use retail minus when
your network operator is structurally separated and has no retail arm. What
would you do – assess prices right across the board from all ISPs and work
backwards from there?

The only option is to move to a cost-based model, and as that’s
what the law requires, that’s what the Commission has done.

I’ve called the Commission on mistakes in the past: the original
TSO decision was a travesty that lumbered the market with an utter nonsense for
nearly a decade. The decision not to unbundle in 2003 was poor and did not
serve us well.

I even question the price point for LLU services announced
yesterday – it seems odd to me that prices for connectivity haven’t fallen by
more than $4 in five years.

But on the matter of using a cost-based analysis to
determine the wholesale price of service from Chorus, the Commission has no
choice – it is the law.

3 replies
  1. Alan
    Alan says:

    Over time governments come and go so Chorus shouldn’t be surprised and act like a spoiled child when their ongoing monopoly pricing is reviewed periodically and as for their investors hitting up and demanding special treatment from the current government for their cash cow (Chorus) I would have thought it is highly risky investing in a telecommunications monopoly especially as any new incoming government can change the rules at any time.

  2. Alan
    Alan says:

    Paul would I be right in saying that if another government was elected in 2014 and chose to amend the Telecommunications Act that the regulatory holiday now in place on fibre can be amended to regulatory oversight by the Commerce Commission so nothing is set in stone.

    • Paul Brislen
      Paul Brislen says:

      Governments should be wary about overturning such things in haste – but given the PM’s comments regarding the current Act (which has been in place for two years and so shouldn’t be a surprise) it wouldn’t surprise me at all.

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