Could political interference create ‘sovereign risk’ for Canada’s digital infrastructure?

A new report released this morning warns “Mandated access could impair Canada’s next generation of digital infrastructure.” The report, “Mandated Competition or Free Ride?” [pdf, 329KB], expresses “concern” that the CRTC would act on political directions to reduce wireless prices and warns of the potential impact of the Minister’s mandate letter on the perception of independence of Canadian regulatory institutions.

In the context of the CRTC’s recent Wireless Review proceeding, as well as the ongoing Cabinet appeal of last year’s wholesale broadband decision [Telecom Order CRTC 2019-288], the Competition Policy Council of the CD Howe Institute held an ”ad hoc” meeting in February to discuss the issue of mandating access to telecommunications facilities. Members of the Council highlighted a lack of clarity for what consumer price level the federal government views as “economically efficient”. The report says certain members of the Council “doubted that the federal government has an empirical basis for its [25%] price reduction target. These members believed that the federal government has established its target arbitrarily and for political aims.”

The report notes the significant risk of setting wholesale rates ‘wrong’ and says that most members of the Council were “skeptical of the institutional competence of the CRTC to consistently identify the ‘right’ regulated rates for mandating access.”

The consensus of Council members present was that competition in telecommunications services involves fast-paced technological change, long lead-time investment in facilities, multiple and highly differentiated service offerings, consumer demand for high-quality services, and rapidly evolving cost structures. All Council members were cognizant of the “enabling” impact of high-quality infrastructure for digital services on Canada’s overall competitiveness. While certain Council members contended that mandated access would provide downward pressure on consumer prices, other members were concerned that short-run price reductions would come at the expense of long-term investment incentives for next-generation facilities. Council members agreed that setting rates for access at too low a level below facilities providers’ required return on infrastructure investments would discourage future investments.

Members of the Competition Policy Council said “Setting rates for access at too low a level below facilities providers’ required return on infrastructure investments would discourage future investments.”

Council members agreed that facilities to transmit information – whether by signals over wireline infrastructure or using radio spectrum – are essential for providing communications services. The question at the core of the discussion was whether competitors ought to build their own facilities, or whether mandating access by some competitors to other competitors’ facilities is preferable.

Recording the divergent views of some members of the Council, the report takes on the tone of ‘meeting minutes’ of the debate among council members:

One group of Council members argued that the CRTC should increase mandated access – particularly by allowing MVNO access to wireless transmission facilities at regulated wholesale rates. These members contended that the CRTC should not assume that the only way to compete is to build alternative transmission systems and operate them more efficiently. In these members’ opinion, such “facilities-based competition” is an out-dated concept in the current technological setting, in which they contend great efficiencies can be generated by superior computer power and algorithms without the need of owning and running hardware transmission facilities. While acknowledging that mandated access requires close attention to appropriate access prices, this group of Council members contended that facilities-based providers would continue to have an efficient incentive for new infrastructure if the CRTC adopts a “cost plus” framework for setting rates for mandated access. That is, these members argue that rates can be calibrated to provide sufficiently high risk-adjusted returns on capital to preserve incentive for new investment at the margin.

In contrast, as discussed further below, a second group of Council members expressed scepticism that the CRTC would have the capacity to set appropriate prices for access that provide the appropriate risk-adjusted rate of return to investment in facilities.

These sceptical members contended that mandating access has failed empirically to foster durable competition. For example, certain members pointed to the CRTC’s arguably unsuccessful earlier approach to compelling unbundling of local loops for telephones in order to foster competition in voice services. Nonetheless it was the development of voice services provided through cable and fiberoptic facilities (e.g., VoIP) that ultimately produced new competitors for telephone facilities.

In this way, these members observed that regulators tend to be “backwards-looking.” That is, regulators arguably focus on static sources of competition. By assuming that existing infrastructure will be the only technology for delivering a given service, certain Council members believe that regulators run the risk of interfering in the dynamic that drives entry of durable new facilities-based competition.

The report concludes with a discussion warning of political interference in the independence of Canada’s telecommunications regulator. “If government pursues short-run political objectives at the expense of returns on long-lived infrastructure investments, certain Council members believe confidence in Canada’s regulatory regime for telecommunications will be difficult to win back.”

According to members of the Council, politically driven policy shifts that result in reduced returns on past investments will be viewed by the investment community as a form of sovereign risk “unless political decision-makers make credible commitments to an independent regulatory process grounded in consistent principles.”

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