TSO changes overdue

I doubt there has ever been a better (or worse) case of unforeseen consequences that the former Telecom Kiwishare, now known as the Telecommunications Service Obligation.

It had the best of motivations – to protect rural New Zealanders whose phone lines could be deemed uneconomic by requiring Telecom to still provide them with flat rate local calling at at an inflation adjusted price cap.

The first failure has been the price cap. The cost of telecommunications has dropped massively over two decades. But guess what happens if you have a law that says Telecom can increase line rentals by no more than the rate of inflation. Well not only do they not drop prices, almost every year without fail they increase line rentals by the rate of inflation. A price cap becomes a price target.

The second failure was its effect on competition. It not only kept competitors from offering services to rural NZ, it made them fund Telecom for its so called “uneconomic” customers. Tens of millions of dollars went from struggling competitors into Telecom.

So after years of discussion, we’ve finally had decisions to make changes, by Steven Joyce. They are:

Currently Telecom receives approximately $70 million per annum largely to compensate it for supplying local service to rural customers.  This money is sourced from the industry via the TSO levy which is paid by market participants (including Telecom which contributes approximately 70%) on a market share basis.

Mr Joyce says he is concerned by the lack of transparency around where this money is spent and whether rural customers are benefiting from it.

“The existing TSO levy has been in place since 2001 and has been a source of considerable controversy within the industry. A recent review of the TSO had identified that the current methodology for assessing how much the TSO commitment was costing Telecom a year was flawed.

The current TSO levy methodology counts the costs Telecom incurs but does not include the full range of benefits Telecom derives from the TSO.

The government is proposing to change the methodology for how much Telecom is compensated for uneconomic customers.  By counting both the costs and the benefits of the TSO it is likely that the TSO levy will reduce to zero for the foreseeable future.”

The non inclusion of benefits was a cause of considerable angst for the competitors who paid $21 million a year to Telecom. This decision has near universal support.

However the telcos are not getting to keep all the money they used to pay:

“We’re proposing to fund the $300 million rural initiative through a combination of direct government funding and revenue from a more transparent and effective industry levy than the current TSO levy.”

The government will provide a direct contribution of $48 million and further interim funding of up to $52 million.  The remaining funding will be sourced by replacing the existing TSO industry funding with a more transparent contestable industry-wide mechanism that focuses on developing rural telecommunications.

The new telecommunications development levy to replace the TSO levy would look to recover around $50 million per annum over the next six years – about $20 million less than is currently the case.

“When the government tenders for the provision of rural broadband it will be an open and competitive process, with full transparency on where the money is spent,” says Mr Joyce.

So around 70% of the old levy will still be collected, and used to fund rural broadband. This part is less than popular with the telcos, but very popular with Federated Farmers.

A more purist model would be to have the Government fund rural broadband development directly (if one accepts there is an economic gain in doing so), but the model announces is quite cunning because competing telcos are still pretty happy to be funding $15 million a year to a fund which is contestable and will actually increase broadband infrastructure, than $21 million a year to Telecom merely to maintain the status quo.

Telecom of course does not do so well as it used to collect $21 million for doing basically nothing, and paid $49 million to itself for the same thing. It will now pay around $35 million to the Government for the contestable fund. Some consolation to Telecom, is that they are in the best position to win most of the tenders for using the funds.

The Herald reports:

Vodafone chief executive Russell Stanners said it was time for reform of the TSO.

“The TSO regulation was introduced with the best intentions but has become a millstone around the neck of the industry.”

Telecom said it had been part of an industry-wide push to secure reform of TSO arrangements.

“This reform is long overdue and needs to be based on principles of contestability, transparency and technology neutrality,” Telecom chief executive Paul Reynolds said.

“It is equally important that any subsidies applied to fund services to uneconomic customers are borne equally by all consumers, and not just Telecom’s.”

Federated Farmers welcomed the plan but said it was approaching it cautiously until more details were known.

Pretty much everyone agreed on the need for reform, and most will say this is going in the right direction.

The Telecommunications Industry Group (TIG) said the plan amounted to a $252 million industry tax.

“The Government has just replaced one form of taxation with another, in an industry where prices are dropping, margins are tight and customer expectations are increasing,” said TIG chief executive Rob Spray.

They are right, except of course it is replacing what was an even higher $350 million industry tax. It is a move in the right direction with both a dropping of the amount levied, and a change in what it is used for.

Economist blog Progressive Turmoil, blogs favourably on the decision, and has a neat little graph too.