Regulation vs. Competition in network industriesSome lessons from the developing countries

experienceAntonio Estache

July 2008

2

Overview• Some stylized facts

• Some theory tainted by facts

• Some case studies

• Some lessons

• Note: builds on joint work with Claude Crampes (Toulouse)

3

Network Industries• Focus on infrastructure

– Telecommunications– Energy - power and gas– Transport - roads, rail, ports,

airports– Water and sanitation

4

The Initial Conditions in Early 1990s – poor service in terms of

• quality (Costly, high frequency of interruptions, …)• coverage (rich connect. pay <, poor less connect. pay >)

– no client orientation:• no metering • poor bill collection habits

– political interference with tariff and clientelism– fiscal constraint :

• Tradition of soft budget constraints and high subsidies levels but …massive fiscal crisis

• => no more gvt financing:

DRIVING FORCE FOR REFORM!

5

Restructuring and PPPs as the solution?

Search for fiscal benefits

Search fo ImprovedEfficiency

Improved Access and Affordability

?

6

…: increased in the role of the private sector but not as much as often claimed…(% of countries with Private Participation)

Elec.Gn. Elec.Dis. W&S Rail Telecm

SS Africa 39% 28% 20% 47% 41%

East Asia 67% 20% 64% 43% 38%

East. Europe 41% 48% 62% 20% 58%

Lat. & Cent. Am.

68% 61% 41% 56% 67%

Mid. East 7% 6% 18% 20% 23%

South Asia 38% 13% 13% 17% 50%

Developed 70% 43% 80% 65% 83%

7

Realizing the Benefits from Reform

Form and extent of private involvement

Market structure and competition

Regulatory approach

3 drivers with interest to both regulation and competition agencies

8

Search for competition as the main driver of restructuring??

• Major unbundling efforts to promote Competition in the Market, – Removing unnecessary regulatory barriers to entry…and exit– Unbundling potential competitive activities from monopolistic activities

(vertically and horizontally)

• Major effort to promote competition for the market, – Competitive bidding for new projects and privatizations– Competitive re-bidding at the end of concession/license terms

• Some effort to introduce formal and informal yardstick competition– Mexican ports, Brazilian railways, Argentina and Brazil water, various

countries in electricity distribution

• ….But still many segments with strong residual monopoly power…so strong demand for regulation …and regulatory agencies

9

% of countries with Independent Regulatory Agency-per geographical regions, 2004 --

Elect. W&S Rail Telecm

SS Africa 34% 12% 3% 75%

East Asia 36% 25% 0% 19%

East. Europe 78% 20% 0% 59%

Lat & Cent. Am. 73% 50% 28% 73%

Mid. East 7% 0% 0% 59%

South Asia 50% n.a. 0% 75%

Developed 92% 20% 21% 55%

10

So what do we know in a nutshell?• Not that many regulatory agencies

– Strong regional biases– Both types of agencies are present in Central and South America– More regulation than competition in Africa– More competition than regulation in Asia– About even in Eastern Europe

– Strong sectoral biases– In favor of telecoms and energy

– Which means that self and hence political regulation continues to be widespread• ...and not a perfect coverage for competition agencies

– OK in Latin America, Asia, possibly Eastern Europe almost absent in Africa– Economists matter relatively more in Latin America (+/-even with lawyers),

much less in Asia (administrative staff dominates) and Lawyers dominate in Eastern Europe (the Serebrisky survey)

– ….and staffing biases drive the nature of decisions (economic vs political) • And when network industries are covered by competition

agencies….– Bigger deal in LAC, then EE and much less in Asia– Moreover, politics matter a lot

11

Moving a bit towards theory

• How to think about the differences in role for the

regulation and competition agency that resonates with the

real world…focusing on developing countries…

• but not completely irrelevant for developed countries???....

12

Think of the degree of competition as the driving force in a continuum of forms of

involvement of government

Central planning

Laisser faire

Administrative regulation

Competition policy

13

Main differences in focus between regulation and competition agencies

…The two types of agencies tend to focus on industries with different technologies

marginal cost

average

costq

For segments of industry potentially competitive

antitrust

Marginal cost

Average cost

q

For segments of industry potentially non competitive

regulation

14

Often there is a hierarchy and political and legalistic competition agencies prevail over (less political and

« economistic » regulatory agencies

Firm vs firm

Firm vs regulatory

agency

Competition agency (or public authority performing

that role)

15

Where do problems come from??? The incompatibility of acceptable

instruments of analysis and of solutions

• Economics vs legal instruments – efficiency vs. equity

• Biased arbitrations– Regulation in favor of benchmarking

– Competition policy in favor of jurisprudence

16

pM

qM qC

c

p(q)

R'(q)

price

0quantity

¿back to basics….why is it again that we worry about regulating monopolies???

17

qcq3q2q1

Economists would be happy to support price discrimination….

0 quantity

price

c

p(q)

p0

p1

p2

p3

High political costs and risks….

• rent goes to monopoly• buyers pay different pricess

inconsistent with popular concepts of equity, social justice, public service…

18

Lawyers and politicians prefer …price reduction

c

p(q)pM

Mq

price

quantity0

Excess demand

p

Problem…:

• rationing• price loses its signaling value

unacceptable from an efficiency and possibly social viewpoint ...

19

The disagreements on the design of prices is not the only problem we see

• Many competition agencies are revealing a bias in favor of processes and structural solutions…– => questioning of some of the restructuring

processes of the 1990s

• Most regulators tended to favor behavior and technical assessments (but this is changing…)

– => questioning some of the changes in market structure taking place since reforms (mergers, alliances,….)

20

Legalistic and administrative tools• Antitrust focus on:

– market– relevant market– Market share and

Herfindhal– abuse of dominant position– Agreement and restrictive

practices– Concentrations– Subsidies levels and other

state aid

• Regulation focus on:– industry

– Vertical integration

– Margins, cost of capital and Lerner Index

– Price control

– Quality control

– Incentive to invest

– Subsidies design

– Accounting information (cost allocation, regulatory accounting…)

21

Common issue in developing countries: access prices and rules

• Of common interest to regulatory and competition agencies

• "essential facility": access necessary to allow competition

• If vertical unbundling, simple natural monopoly problem

• If maintain vertical integration, suspicions of favoritism

– So need information and access tariffs

– Major drama….most reformed railways have faced the problem in Latin America for instance

• So how did countries deal with it???

– Legalistic-political vs economic solutions

22

•A quick review of decisions taken suggests that the main concerns are (in no particular order…):

• Allow cost recovery and efficient production and consumption of product,

• But also…be equitable and not discriminatory,

• Send reliable signals for investment plans

• Stimulate entry of efficient producers and exit of inefficient ones,

• Be simple and verifiable

• Be polítically acceptable.

Political solutions to access pricing

23

•A quick review of decisions taken suggest that the main concerns are (in a clear order!!)…• objective:

maximize collective/social surplus• subject to the following constraints

budget constraint/balance (~ participation)

no discrimination (~ equity)

information asymmetry (~ incentive)

etc.

Economic (normative) view of access tariff (more common in regulatory agencies)

24

More generally: differing strategic visions

Regulation Competitionex ante contracts

Common conflicts between USO, efficiency and budget balance

Self selection process due to information assymmetries which result in:

–Fixed applications of instruments, sometimes blind to specific situations–Tolerance for rents to more efficient producers as long as effort is not distorted –Lack of rent but tolerance for distortions in efforts for les efficient producers.

ex ante law but ex post processexception: mergers authorization

Same law for everyone –…but interpretations sometimes vague (still need guidelines) –Lots of case by case (rule of reason) without clear focus on efficiency–Signifiant rents for lawyers…–Conflicts btw competition and industrial policy (see Argentina post crisis)

25

Practical cases focusing on need to see investments speed up…(coverage issue is central in LDCs!)

• Mexico: rail-port integration – modal integration or competition issues…?

– regulators sees the financing of investment side

– Competition see perverse integration

– Transport secretary sees positive integration

• Chile: electricity production-transmission integration• Brazil: freight-passengers rail interactions involving

various government levels decisions• Argentina: ports terminal mergers• Africa and South Asia: fixed-mobile telecoms

integration

26

So…

• Experience suggests that many of the problems/biases of the OECD countries are being imported in developing and transition economies

• Major gap is still real concern for consumers…often more a battle between the state and the firms or btw the firms

• Major concern is that political power interference continues to be much more dramatic in developing economies

27

Revisiting what happened to the these Initial Conditions of Early 1990s …

– improved service in terms of • quality (Costly, high frequency of interruptions, …)

• coverage improvement but often regressive improvements

– more client orientation:• But selective improvement…poor still face major problems

– political interference never really stopped

– fiscal constraint:• Improved in short run…but gvt driven renegotitions

often brought back subsidies…=> return of gvt financing!!!

28

…BUT the real new issue is a supranational one….concentration at the regional level….

and not enough people are really looking into thatElectricity Telecoms W & S

Generation Distribution Fixed Mobile Water Sanitation

Global (inc. OECD)

Prob. Not Prob. YesProb. Yes

Prob. Not Prob. Yes

Prob. Not

AfricaProb. Not Prob. Not Prob. Not

Prob. Yes

YES Prob. Not

Asia & Oceania Prob. Not Prob. Yes

Prob. Yes

Prob. Not Prob. Not Prob. Not

Latin America YES Prob. Yes YES

Prob. Yes

Prob. Not Prob. Not

North Africa NO n.a. Prob. Not Prob. Not YES Prob.

YesEastern Europe NO YES YES

Prob. Yes

Prob. NotProb. Yes

29

Conclusions• As usual…things are not always what they were intended to be• Common focus but differences in instruments between the two

types of agencies raise issues with some concern for users and taxpayers

• Politics matter increasingly and in that game competition agencies do better and are easier to recapture within a ministry

• Moreover, lots of things are happening at the supranational level• Case for international cooperation is growing but…willingness

to cooperate is still more formal than real• As always…a big chunk of the incidence is on the poorest who

don’t see their access improve fast, but see affordability erode • When their voice is only heard in crisis situations, the good of

reforms in these sectors is increasingly thrown away with the bad… (see policy reversals in Latin America and Africa)

• Probably for the worse and not for the better…but we don’t have the right counterfactuals…so we don’t really know