The electricity reforms that came into effect last month are looking like creating a lose-lose outcome: the shareholders of the former ECNZ are losers and domestic electricity consumers are losers, despite the touted gains to consumers. (See, for example, "Electricity Reforms Mean Lower Prices", press release by Tony Ryall, Minister of State Owned Enterprises, 10 June 1998). Power prices, where they have changed, have been increased, not cut.

There may however be gains for some of the new shareholders (many of whom are foreign and did not share in the cost of the creation of our power supply infrastructure), and for some businesses (many of whom are substantially foreign owned) who can strike bulk purchase deals.

The theory of imperfect competition suggests that monopoly producers (such as the former ECNZ) charge higher prices than are warranted by their production costs. (The difference between price and production cost is called economic rent.) An electricity-generating monopoly is supposed to do this by supplying less electricity than would an industry of competing suppliers.

Little attention was paid to the fact that a monopoly electricity supplier is in fact subject to competition; eg from suppliers of alternative fuels, and from products that allow consumers to conserve electricity. It is not necessarily in the national interest to have low electricity prices.

The intended effect of the reforms is to raise the cost of producing electricity, while lowering its price. Making a market competitive is an exercise in transferring wellbeing from shareholders to consumers; following the assumption that there will be net efficiency gains. In the case of ECNZ, the equal shareholders were the resident population of New Zealand, and the consumers expected to gain the most included the foreign shareholders who own our larger businesses. Thus it was always an exercise in diminishing the incomes of the many low-income New Zealanders who had an ownership stake in ECNZ.

Some economists treat economic rent as a cost, and hence they see monopoly as a source of inefficiency. Economic rent is not a cost, however. It is pure benefit; it is unearned income. The problem with monopoly is that the benefit often goes to people who do not deserve it. That was not the case with ECNZ, in that the economic rent formed part of the nation's social wage. (Ideally, all unearned income should be distributed as social dividends, which should be thought of as the universal cash component of the nation's social wage.)

There was a problem, in that the economic rent was probably captured in part by management, rank and file workers, and mates who got lucrative contracts. Hence high salaries paid to managers of publicly owned monopolies represent a missing slice of the social wage.

Rank and file workers, working for a monopoly like the former ECNZ, may get better working conditions and wages than workers employed in perfectly competitive industries. This is called 'x-inefficiency' by some economists, and is treated as an economic cost. In reality, a more relaxed working environment represents a part of the economic rent that is a part of a monopoly's unearned income.

The loss of 'x-inefficiency' is the equivalent to a wage cut. Likewise, reforms that raise x-inefficiency throughout the national economy would be the equivalent of a general wage order; a benefit to ordinary New Zealand workers, the backbone of New Zealand society. (This idea of creating economic welfare through a more relaxed rather than a more competitive working environment is central to Tim Hazledine's thesis in Taking New Zealand Seriously; the Economics of Decency, and to the writings of economist Robert Lane.)

X-inefficiency is not an economic cost; it is a portion of economic rent captured by rank and file workers, at the expense of other potential recipients of this unearned income.

ECNZ distributed its economic rent in other ways, too. It conformed with wider social goals in terms of flood-control management, and provided facilities for sports such as rowing. These social benefits are not easily supplied in a brave new world in which each power source is owned by a different company.

New Zealanders have lost the economic rent arising from electricity generation. Most of the loss occurred when the capital values of ECNZ's assets were marked down. That mark down was a direct acknowledgement that the costs of electricity supply would be raised by the reforms. The extra costs include the costs of triplicating formerly efficient management structures, the advertising costs of marketing for all of the new companies, and legal costs arising from disputes between the new companies.

The size of the past economic rent was not as great as had been presumed by the reformers. After all, electricity suppliers were competing with suppliers of other products (as I have noted above) and they were not pricing electricity in accordance with the simple theory of monopoly pricing. ECNZ was like a natural monopoly, taking advantage of economies of scale, and where short and medium term marginal costs were less than average costs. It is particularly costly to break up that kind of monopoly.

The reforms have failed to create anything like a perfectly competitive industry. Imperfect competition continues. Hence the new companies continue to receive economic rents.

Because economic costs have risen and the reductions in economic rents have been incomplete, there has been no fall in the price of electricity. Some domestic consumers (eg those of Canadian owned Transalta) are facing price increases. The people of New Zealand have lost as shareholders and, as consumers, will likely face higher prices in future than they would have otherwise faced.

All of the companies now participating in the electricity supply industry know that their collective interest lies in cooperation, not competition. It's the old 'prisoners dilemma' problem. The whole reform process is predicated on the notion that the new companies will fall for the prisoners dilemma, and welch on the collective vested interest of the industry by cutting prices to raise their individual market shares. Fat chance!!
 

Electricity. Issue of the Week? 7 July 1998

Asset Sales, Tax Cuts and Social Dividends 14 February 1999

© 1999   Keith Rankin

Rankin File | 1999 titles