The fur is flying in Oz - and maybe will here, too

We're in the process of having a rethink about our 'abuse of market power' legislation - s36 of the Commerce Act (if you're new to this you may want to have a quick read of 'The law is an ass' and 'Get your views in on abuse of market power').

It's partly because the Aussies have also got the ball rolling. In fact, they're ahead of us, as the Coalition government over there has decided to change the Aussie law, in line with the recommendation by their 'Harper review' of competition policy, while we're still at the consultation stage. The gist in Australia is that the law will switch from a focus on the purpose a firm with market power may have had when it did something, to a focus on the effects the firm's actions have on the competitive process.

I think it's a sensible move, and I've been arguing for doing the same here. We currently have pretty much the same wording in our law that the Aussies have decided to change in theirs, and we can get a free ride on their (very extensive) process of competition policy development. And if the Aussies change, we don't really have much choice in the matter, as we'd be left high and dry with an ineffective archaism of our own.

In Oz, however, the proposed change has sailed into a new political squall. Reform of important legislation affecting big business always tends to have its tricky moments: what set it off this time was a comment by Australia's Productivity Commission in its recently released draft report on agricultural regulation (if that's your thing, the overview is here and the full report here). Along the way the Commission had said (p431)

Some competition law experts argue that pressure to amend section 46 [the Aussies' version of our s36] is based partly on wanting to shield small businesses from competition. For example:

Section 46 is designed to ensure those with market power don’t use it to insulate themselves from competitive pressure; but s46 shouldn’t be used to insulate small business … (Trindade, Merrett and Smith 2013, p. 6)

The introduction of an ‘effects’ test to section 46 is unlikely to shield farm businesses from intense competition in retail grocery markets. Shielding farm businesses from competition would also not be in the interest of consumers.

What the Commission said, in short, is that even if the effects test was enacted, it wouldn't actually serve as protectionism for farmers, and in any event protecting groups from competition would be a bad idea. All good.

But then up pops a press release from the Opposition competition spokesman Dr Andrew Leigh, quoting that bit from the Commission saying an effects test won't help farmers and adding

An effects test won’t protect producers, but it will raise grocery prices and threaten retailers with court action if they become too competitive...Labor remains opposed to the effects test as it will have a chilling effect on competition and raise prices on everyday groceries such as bread and milk

He also went on, rather incongruously for a Labor politician I thought, to recycle a number of anti-effects-test statements from the big business end of town, and finished by arguing that the effects test was in reality a plot by the National Party component of the Aussie Coalition to protect small businesses against competition from large ones.

The notion that the proposed law change, intended to increase competition by preventing anti-competitive standover tactics from those with market power, was actually A Cunning Plan to decrease competition by protecting small businesses, has predictably sent the proponents for change well-nigh berserk.

Ian Harper, who led the Aussies' 'Harper review' of competition policy that came up with the proposed change, responded by telling The Australian newspaper* that the effects test "has been misinterpreted to an “almost wilful” degree", that "characterising the proposed reforms as protectionism was “to turn reality on its head”", and that "The point of the act is to protect the competitive process, not individual competitors".

Rod Sims, the chair of the ACCC, who supports the change to an effects test (and who has also supported our Commerce Commission in pressing for the same change here), was even blunter. He said, again in The Australian*, that "framing section 46 reform as protectionist policy driven by the National Party is “bullshit”, and has slammed big business for distorting debate around the so-called effects test laws", and "Sure, they’re (the Nationals are) in favour because they like the little guy being able to compete with the big guy. But that’s what we want: we went competition, everybody should want competition. We don’t want large companies preventing competition.”

I wouldn't be in the least bit surprised if something like this bunfight plays out here in New Zealand, too. It might be a step too far for our Labour opposition to rise in the House to champion the rights of the supermarkets and other big firms, but in the opposition for opposition's sake game that both our big political parties play, who really knows. I just hope that, in the end, the Harper and Sims views make it through the political minefield.

*I haven't included direct links to The Australian articles because there's something of a random process around The Australian's paywall - you might get through, but you might not, either. If you google 'Ian Harper slams ‘effects test’ reform critics for distortion' and 'ACCC slams big business for effects test distortion', you can usually find access either to The Australian site or to other sites that have carried the articles.

Are monetary conditions too tight?

The Reserve Bank's latest quarterly survey of expectations popped up in my inbox the other day, and as usual I was at a loss to answer the question 'What is your perception of monetary conditions'.

It's the 'conditions' bit that throws me. The question is intended "to capture respondents' broad perceptions of current monetary policy settings and their expectations of the future stance of policy in one quarter's time and one year out", which looks as if it is probing about the interest rate setting side of monetary policy.

But interest rates are only part of overall monetary conditions as experienced by firms and households: the other big factor is the exchange rate (and arguably there are others - the willingness of banks to lend, the ability of firms to raise capital through bond or equity issues). So I'm never too sure what (say) the CFO at a big company might be feeling overall about monetary conditions: is the crimping effect of low export profit margins when the exchange rate might be high more important than the availability of cheaper finance when interest rates might be low?

And so every now and then (last time was in February) I'm driven to power up the spreadsheet and recalculate the old Monetary Condition Index (the 'MCI'), which attempts to blend interest rates and exchange rates into an overall assessment of the tightness or looseness of monetary conditions. Here is is, using RBNZ monthly data up to June and last Friday's data (after the RBNZ's economic update) for July.

It looks as if we are experiencing overall monetary conditions that are modestly on the tight side of our long-term average: going by the MCI alone, you'd say that the RBNZ definitely ought to cut the Official Cash Rate at its next opportunity on August 11. You'd want overall monetary conditions to be on the easier side, not the tighter side, when inflation is tracking below target.

"Going by the MCI alone" is a big qualification, though. For one thing, businesses don't seem to be feeling very squeezed by the exchange rate, as you can see in this chart from the ANZ's latest Business Micro Scope survey of small businesses. The exchange rate is listed there as a problem for a few, but it's well down their list of worries compared, in particular, to finding skilled employees (and compared to the burden of regulation, which is a topic for another day). And of course there's the potential impact of lower interest rates on floating rate mortgages and the housing market (aggravated by the fact that lower bond yields are feeding through to lower fixed rate mortgages as well).

So who knows - maybe the RBNZ will stay its hand on August 11. But if the be-all and end-all of monetary policy is overall monetary conditions conducive to getting inflation where it ought to be, the MCI logic says, cut the OCR.

Still nothing

Nine months ago I went and had 'A visit to a Special Housing Area' near to us. Three months later I went and had another look: nothing had happened on site, which led me to wonder, 'How 'special' are Special Housing Areas?'

And yes, you've guessed it, I went along again, over the weekend. The big tree has lost its leaves, but otherwise all is as before - still no sign of the apartment block that the Special Housing Area was meant to fast track.

On the other hand the non-fast-tracked apartment block at 1/23 Bute Road, just down from the Special Housing Area, is coming along just fine, as you can see below.

So: I'm prepared to believe that Special Housing Areas were a well-meaning initiative. And I agree, this is a sample of one. But my question would be: where is the evidence that they have made any positive difference?

Time to revisit "hard core" cartels

Earlier this week the European Commission fined four truck makers €2.93 billion (NZ$4.6 squillion at the current exchange rate). A fifth, the German company MAN, wasn't fined because it ratted the others out, and under the Commission's cartel leniency policy (and our own Commerce Commission's), the first company in the door to renege on the others gets off any fine (though it and its cartel mates remain exposed to civil suits for damages). A sixth company, Swedish based but Volkswagen controlled Scania, didn't settle with the Commission and is being pursued separately. Full details here.

This was your classic "hard core" cartel - secret, prolonged (14 years), deliberate, and significant. As the European Competition Commissioner said

there are over 30 million trucks on European roads, which account for around three quarters of inland transport of goods in Europe and play a vital role for the European economy. It is not acceptable that MAN, Volvo/Renault, Daimler, Iveco and DAF, which together account for around 9 out of every 10 medium and heavy trucks produced in Europe, were part of a cartel instead of competing with each other.

The European Union hasn't criminalised cartels, meaning that executives can't be jailed. Member countries weren't prepared to give the Commission the authority, and have gone their own ways: some have chosen the criminalisation route (the UK, Ireland), most haven't. But if ever there was a European case where executives needed to have their collars felt, this was it.

By coincidence, a couple of days earlier the ACCC announced that NYK, the Japanese shipping company, had pleaded guilty to criminal cartel conduct involving the shipping of vehicles from Japan to Australia in 2009-12. It's been a while coming: this was the first criminal case since the Aussies criminalised cartels in mid 2009. We don't know who the other alleged parties to the cartel are. We don't know if anyone at NYK is packing their toothbrush.

When I see cases like these, I can't help thinking - again - that we made the wrong decision last December in flagging away cartel criminalisation in New Zealand. I've posted before that "Hard core" cartelists are criminals and what our response should be: Let hard core cartels off the hook? Nah.

Bear in mind that I'm a bleeding-heart raised-in-the-Sixties liberal, and I'm hard to convince that we should imprison people for anything short of grievous bodily harm or broadcasting reality TV programmes. Bear in mind, too, that I'm generally pro business, strongly pro markets, and slow to buy into heavier regulation or enforcement without an industrial strength, convincing, evidence-based case. But when these genuinely "hard core" cartels crop up, even I am prepared to reach for the handcuffs.

Here's one solution to Auckland's housing issues

The Auckland Housing Enablement Bill, 2016

1. The purpose of this bill is to accelerate and increase the supply of well-built housing in the Auckland area.

2. Any house up to two storeys in height may be built anywhere within the Metropolitan Urban Limit without further planning approval, provided that the construction

• is carried out by, or supervised by, a Registered Master Builder or New Zealand Certified Builder, and
• the quality of construction is signed off in writing by two, arm's length, full members of either the New Zealand Institute of Architects or the Institution of Professional Engineers New Zealand

Get your views in on abuse of market power

Right - you've got till 5.00pm next Thursday, June 21, to get your views in to MBIE on their targeted review of the Commerce Act.

It's important, and while I know we've all got other things to do, you'd be doing the economy a favour if you took some time out this week-end (when you're not watching the Warriors take on Manly in Perth, 7.30pm Saturday) to make a submission, particularly on our current approach to abuse of market power - the infamous section 36 of our Commerce Act.

All the background and how to submit can be found here. While technically MBIE is calling for 'cross submissions' on earlier input, anyone can put in something from scratch, though for good form you should probably phrase it as being a response to something already on the record.

There are three issues being canvassed, one big, one medium, one small.

The big one is potential reform of s36, the abuse of market power provision of the Act. In my opinion, and others', the thing is banjaxed. The law is poorly designed, has been interpreted strangely by the courts (both the old UK Privy Council and our newer Supreme Court), and in practice allows behaviour to go unchallenged that would not be countenanced in jurisdictions with better arrangements.

If all this is news to you, read the paper I gave at this year's NZ Association of Economists' conference, 'Abuse of market power: the end of "make-believe" analysis?'. If you'd like to see opinions saying no, everything's hunky-dory as it is, you'll find them in the original set of submissions to MBIE (try the law firms' ones). Whichever way you go on the issues, get your opinion on the record: these issues are too important to be left to 'the usual suspects'.

My cross-submission (I put in a submission first time round, too) is going to be along the general lines of my recent post on s36, 'The law is an ass', and will say:

• Our competition authority, the Commerce Commission, has given up on making the current regime work despite having identified instances where it thinks there have been potential abuses of market power that it is unable to address

• Its Aussie equivalent, the ACCC, agrees with it that our system is munted

• The law is poorly phrased in the first place

• Hence and otherwise the jurisprudence on s36 has seen the legislation effectively gutted in all but the most egregiously awful cases. In particular, courts are supposed to ask, would a firm without market power have done the same thing, and if so, the firm with market power is home free. This completely subverts the whole point, that some actions when undertaken by firms with market power have anti-competitive effects

• The Aussies have, rightly and after a very extensive consultation process, decided to change their law (it's currently similar to ours) for something better

• When the Aussies change, it will be silly and inefficient to have companies facing different legislative tests on either side of the Tasman, and we should harmonise on the better Aussie approach. Harmonisation is a government priority in any event

• The arguments against change - broadly in  the categories of 'business certainty' and 'potential chilling effects' - while valid, are not strong.

There are two other issues you might want to look at.

The medium sized one is whether someone - probably the Commerce Commission - should have the ability to go out and proactively look at the state of competition in a particular sector. The short answer to that, is yes, of course it should. If you want a very quick potted summary of the case for, try my post 'The case for market studies - again', and if you'd like something more comprehensive there's my paper at last year's NZAE conference, 'Is the competition toolkit missing its torch? The case for market studies'. 

The smaller one is around the Commerce Commission's enforcement powers, and especially the 'cease and desist' process. I'm very sympathetic to some kind of quick-response tool for competition authorities, but there are arguments that the current 'cease and desist' process isn't working the way it ought. This is probably one for the lawyers amongst you.

On your marks, get set...

Give the guy a break

Graeme Wheeler, the Reserve Bank governor, and the Reserve Bank more generally, have been copping quite a bit of criticism.

Shamubeel Eaqub's recent piece for Stuff, 'What makes a good Reserve Bank governor?', for example, noted that Wheeler and his predecessor Alan Bollard "are introverts – in an intensely public role", that hence or otherwise "The RBNZ's communication has diminished in quality over time. It is at a low ebb now", that there are central bank leaders overseas (he chooses Mark Carney at the Bank of England and Raghuram Rajan, formerly head of the Reserve Bank of India) who are doing a better job, and that the Bank and its people "are scarcely able to explain low inflation without leaning on failed models". He feels that when the next governor is picked in 2017, it should be from "a long list of strong candidates who possess the right skills for the job".

And it is not hard to find other critics. Hamish Rutherford, also in Stuff, had a piece, 'The Reserve Bank's job is not to keep people guessing', again focusing on communication, and concluding that Wheeler shouldn't be optimistic about getting the nod for a second term next year. And there are plenty of other mainstream and social media pieces along similar lines.

So let me put a few items on the positive side of the ledger. I've had a few goes at this in the recent past - 'Hold the rotten tomatoes', based on the Reserve Bank of Australia's recent experience, and 'Where are we? Where are we?' based on the RBNZ's - but as they self-evidently haven't made much of an impact on people's perceptions, let me try again.

First, it is indeed true (as Shamubeel says) that the RBNZ's forecasts of inflation and interest rates have been been too high, and for quite a while, and that the Bank hasn't been able to get low inflation back up to the middle of its target range.

But neither has any other developed economy's central bank. None of these gung-ho communicators - not Mark Carney, nor Janet Yellen, nor Yellen's predecessor Ben Bernanke, nor Mario Draghi at the European Central Bank, nor Haruhiko Kuroda at the Bank of Japan - has managed to get inflation up to their target levels, either. And other forecasters have similarly been systematically wrong: the Wall Street Journal, for example, does a monthly poll of a large panel of US forecasters, and they've been wrong for yonks as well. The consensus from the latest (June) poll, for example, thinks that the 10 year Treasury bond yield will be 2.2%: a year ago, the same panel of forecasters had picked 3.3%. That's a big miss by macroeconomic forecasting standards, and this in the most intensively analysed economy in the world.

So it should be obvious that the same thing happening in New Zealand can't be laid wholly or even mostly at Graeme Wheeler's door. And the reason comes down to those "failed models" that Shamubeel mentioned.

Between the end of World War Two and the mid to late 1970s, economists used to have a good working handle on how western economies worked. But it broke down when confronted with the stagflation of the Seventies, and was replaced by another workable model that lasted from the early 1980s through to the GFC and which brought us the 'Great Moderation' of that period - ongoing growth with low inflation. Now that model in turn has broken down, and the economics community globally is trying to build a new one, which is likely (among other things) to incorporate a greater role for credit and the financial sector, for globalisation, and for technological change.

But the economists are not there yet. No-one's got the new economy of 2016 sussed. And again it's obvious that Graham Wheeler isn't the cause of this ignorance, and that he's not alone in being blindsided by the structural changes of the past few decades. At least the Reserve Bank, as its Assistant Governor John McDermott said in a speech yesterday, is doing its bit to understand the new environment - "The Bank has shifted its resources in recent years towards more fully understanding this low inflation environment, and this is a strategic priority in the Bank’s 2016 Statement of Intent. The Bank has completed a range of research topics that have shed some light on the drivers of low inflation" - though to be honest I don't expect the big puzzles to be cracked here in New Zealand.

I'm not even convinced by the prevailing "poor communicators" argument.

For one thing, their communication does not seem to have done much damage to the Reserve Bank's credibility in the marketplace. I've looked up the inflation forecasts from the big four banks, and they have a shared degree of reasonable confidence that the Reserve Bank will have got inflation back around 2% next year. While ASB is least confident - they do "expect inflation to gradually return to the 2% mid-point", but they think not till 2018-19 - the other banks are on board with the RBNZ getting there or thereabouts next year. For inflation in 2017, the ANZ is picking 1.7%, the BNZ 2.4% and Westpac 2.1%.

There's little evidence from inflation expectations that the rest of the community has lost the faith, either. The RBNZ compiles an 'inflation expectations curve', which shows expected inflation at various time horizons, compiled from a range of different surveys. Here's the latest one, from the June Monetary Policy Statement. It leans towards ASB's view of the world, with a relatively slow 2-2½ timetable for inflation getting back to mid-target, but it gets there. And longer-term expectations are well anchored at close to 2%. There's not a lot of evidence there that the RBNZ is leaving people confused about the inflation outlook.

One of the communications gripes critics have, apparently, is that earlier this year the Bank said it wasn't likely to cut interest rates, but then unexpectedly did. The obvious answer to that is what Keynes is reputed to have said (but may not have): "Well when events change, I change my mind. What do you do?". Forward guidance - the (welcome) practice of central banks saying what they are likely to do, given what they know today - is just that: guidance. It's not graven in stone, and can't be.

As for communications style, I'd say that I don't know Graeme Wheeler's well at all: we might nod to each other if we passed on The Terrace, but that's about it. All I can observe is how he goes at the Monetary Policy Statements. He comes across as a bit more diffident than Don Brash or Alan Bollard (or my old mate Rod Carr, who got to make one monetary policy decision as acting governor), but perfectly competent. And for what it's worth I've quite liked the way he's taken a somewhat collegial approach to answering the media's questions, bringing in the likes of John McDermott or Grant Spencer.

As for being an 'introvert', again I don't know him well enough to be sure, but I strongly suspect that you don't get to be governor of any central bank by being a blushing violet. And I'm also left scratching my head over Shamubeel's description of Alan Bollard being one, too: this would be the shy and retiring Alan Bollard who's been head of the NZIER, head of the Commerce Commission, head of the Treasury, novelist, artist, and currently chief cat-herder at APEC? Think what he might have achieved if only he'd been an extrovert.

Me, I'd be careful about taking pot shots. If you are ever in a meeting and you start thinking to yourself, well I'm the smartest person in this room, then you'd better check very carefully that Alan Bollard isn't sitting behind you.

The law is an ass

My paper, 'Abuse of market power: the end of "make-believe" analysis?', drew a good crowd at the NZ Association of Economists' annual conference. That's partly because people like to session-hop at conferences and listen to areas outside their usual specialty - a fair few in the audience were folks who don't usually 'do' competition - and partly, I'd guess, because people reckon it's an important policy issue: markets won't work as we'd want them to, if competition is subverted by players with market power.

From the discussion, it was clear that people were left shaking their heads at the folly of our statutory wording (in s36 of the Commerce Act) and its subsequent jurisprudence in the courts. Very briefly, the folly consists of:

• statutory wording that looks for a 'purpose' to knacker competition and the 'taking advantage' of market power, but
• 'purpose' is subjective (barring careless e-mail trails) and often business behaviour has multiple purposes, many benign, which can veil the bad stuff, while 
• 'taking advantage' has been interpreted by our courts as meaning you're home free if you've done something that a firm without market power would have done
• which completely misses the point that something done by a firm with market power can have very different effects than the same thing done by a firm without market power, and
• leads to an examination of what would have happened in a fantasy counterfactual world, and
• nowhere looks at the important issue of what are the actual or likely effects of the behaviour in the market, and
• Australia's just come to the view that their regime (very like ours) is not fit for purpose, and 
• in sum the whole shebang comes close to giving firms with market power a free pass on pretty much anything that isn't the most obvious of rorts.

But you knew that (and if you didn't, there's chapter and verse in the paper).

The reason I'm raising it again is that there's an opportunity for people who may be concerned about the current toothless (and internationally idiosyncratic) state of affairs to do something about it.

Last year, MBIE started a 'targeted review of the Commerce Act', which included looking at the operation of s36. An initial issues paper drew 39 submissions. But now there's an opportunity for cross-submissions: you don't have to be one of the original submitters to get into the fray. You have till July 21 to get any views you've got into the policy pot. Full details of the process thus far can be found here, including links to the previous submissions and the logistics of submitting your own.

I'd emphasise that this isn't an anti-big-business agenda. The primary point here is the proper functioning of markets, for everyone's benefit, businesses and consumers alike. The big loser from anti-competitive behaviour is often other businesses.

In any event, get your views on the record. If you're not in, you can't win.

It's all in your head

The Reserve Bank came out with a new discussion paper last week, 'Inflation expectations and low inflation in New Zealand'. While Discussion Papers are "mainly for academic and professional economists" - and, I should add, represent the staffers' views and not the Reserve Bank's - this one is relatively easy going, and worth a look, because the authors (Özer Karagedikli and Dr John McDermott) have had a go at investigating one of the major puzzles in modern macroeconomics: why inflation has stayed unusually low.

There are other biggies - why has productivity growth (assuming we've measured it right) slowed down and what if anything can we do about it, and what can (or should) policymakers do if they run out of fiscal space and/or hit the zero lower bound for interest rates - but the unexpectedly low inflation puzzle is front and centre across the developed world.

I'd love to say they nailed it, but once I'd got my head around what they'd done, I wasn't totally convinced.

The heart of their argument runs like this. Inflation expectations affect actual inflation: if (for example) people expect low inflation, they'll settle for low wage rises, which will feed into low actual inflation. Fair enough. And then they say: what if inflation expectations don't just arrive out of the blue but are (partially or largely) influenced by actual inflation? Suppose actual inflation is, unexpectedly, only 1.5% instead of 2.0%. People revise their expectations down in line with the lower actual rate, and their lowered expectations (and the price and wage behaviours that follow) drive actual inflation lower again, to say 1.0%. Expectations are revised again ... you get the idea. Voilà - a self-fulfilling circle driving inflation down (or up, if the initial surprise had been higher than expected actual inflation) and one that has nothing to do with the strength of the economy or other things you might have expected to dominate what happened to inflation.

So they built a nice little model, which worked just as they argue. If you'd like to go through the details I've got a summary below, though you'll find the paper accessible enough in its own terms if you'd prefer to go to the source.

It is an interesting paper. But I was left with several questions at the end of the exercise.

The first is around how they model expectations. They say, people's expected rate of inflation will be some blend of (a) the latest actual outcome over some recent period, a backward looking measure, and (b) the expected inflation rate as measured in a survey, a forward looking measure. And they find that, modelled this way, not only do expectations have a strong influence on actual inflation but the weight that people apparently place on the latest actual inflation rate has increased markedly since 2008-09. So you have an explanation for the persistence of low inflation: a self-validating and strengthening feedback loop from low inflation to even lower expectations to even lower inflation again.

But this is all rather odd. The survey that asks about people's expected inflation rate is their inflation expectation, by definition. Subsequently saying that expectations are actually a mixture of those expectations and actual inflation is a bit of logical gymnastics I can't quite follow. But, as they say, "The empirical treatment of inflation expectations is crucial for the purpose of this paper", and if you're not convinced by their formula (and I'm not), some of the results fall over.

Even if you go along with their approach, though, you're still left with other questions.

One is: why? Why did people change in recent years from putting more weight on what they expect to happen, to putting more weight on what's actually happened? Have they suddenly stopped believing that they can get a handle on what lies around the corner - which wouldn't surprise me, in a post-GFC, post Brexit world? The researchers may well have unearthed an interesting mechanism or process, but we're still left with an unsolved, if different, problem.

Another question is: in the world they've modelled, what's happened to central bank credibility? If everybody believed their local central bank would indeed keep inflation around 2% (or wherever), then their expectations would stay around 2% irrespective of any wobbles in actual inflation along the way. Perhaps people in New Zealand (and the eurozone, and Japan) have indeed thrown in the towel and now prefer to believe the evidence of their own lying eyes rather than subscribe to what central bank governors say. If true, that's important, but again it raises a whole new research agenda to unpick the next layer of answers.

Bottom line? Because of the somewhat idiosyncratic modelling of expectations in this research, I wouldn't get too hung up on its exact outcomes. But I think it does make a good, wider point. Expectations have always mattered: that's seen most obviously in hyperinflations and deflations. But clearly they matter in more normal times, too, and they may not have got the policy attention from central banks that they should have.

That's changing. In the US, the Fed has been paying more attention to the financial markets' view on five year forward inflation, for example, and recent Monetary Policy Statements from the RBNZ have been zeroing in on expectations, too: they've included an 'inflation expectations curve'. So far so good: the big issue, though, is having realised that expectations matter, and possibly matter a lot, do central banks know how to manage expectations back towards levels more consistent with the banks' inflation targets?

The economics behind it

The authors start with the well-known Phillips Curve - an inverse relationship between inflation and some sort of measure of slack in the economy, often an unemployment rate - but not any old Phillips Curve. They've used a New Keynesian Phillips Curve, which adds in an extra factor, people's expectations of inflation. In this version, expectations have an independent life of their own in influencing inflation: if people, or firms, expect inflation to rise, they'll get their retaliation in first in their own wage and price setting, and inflation will rise even if the unemployment rate doesn't move. The authors also added in an extra term, to allow for the effect of import prices on overall inflation.

If you prefer symbols to words, here they are:

π_t = βE_tπ_t+1+ κy_t+ γΔp_m,t+ ε_t

where π_t is  inflation at time t; E_tπ_t+1  is expected inflation in the following period, which has a weight of β; y_t is a measure of capacity utilisation (the coefficient κ will be negative if you use the traditional Phillips Curve unemployment rate and positive if you use an output gap); Δp_m,t is the change in import prices, which has a weight of γ; and ε_t is the usual stochastic error term.

The final wrinkle of importance is they look at that expected inflation term, and ask where does it come from? And they say that people will come to a view based partly on what they've recently experienced and partly on what they think will come next (as shown in consumer surveys, for example). So it will be something like this:

E_tπ_t+1= θπ^a_t + (1 - θ)π^s_t

where the 'a' superscript means some measure of recent actual inflation and the 's' superscript means some survey measure of expected inflation. I haven't used their exact notation here, because if you can write π with a bar over it in Blogger, then you're a cleverer operator than I am.

And then they estimate the whole thing. It fits pretty well, with R²'s around the 0.7 mark, and expectations do indeed play a big role. All good: then comes the interesting bit. They look at how the coefficients vary (or not) over time. And they find that θ, the weight on recent actual inflation when people come to take a view on what next, has risen substantially from 2008-09, as shown below.

And that's where I part company with the analysis. People form expectations with half a view on what's recently happened, and half a view on what might happen next? Sure. But once they've done that, then they've settled on a view. That's it. Expectations aren't a combination of that view and current inflation - that's already been factored in.

Competition is good for you, part 293

The Reserve Bank of Australia came out with its latest Quarterly Bulletin the other day, and in it there was a fascinating article, "Why Has Retail Inflation Been So Low?".

The authors wanted to find out why inflation in the Aussie shops was running lower than would have been expected, given the level of the Aussie dollar, as can be seen in the graph below, where the dark blue line (inflation)  has been lagging below the pinky-purply one (the changing value of the A$).

And when they looked at it more closely they discovered an interesting thing. They disentangled what happens when exchange rates change. There are two steps: the first is the impact on the landed Aussie cost of imports (which goes up when the A$ falls and down when it rises), and the second stage is what happens to that changed landed cost of imports as it works its way through the wholesale and retail domestic distribution chain.

What they found was that the first stage hadn't changed at all: a lower A$, for example, was still feeding through to higher landed A$ costs of imports, just as it always did. But the second stage had changed quite a lot: from about 2010 onwards, there was less pass-through of those higher import costs into final consumer prices, as the graph below shows.

They weren't able to nail what had changed in the second stage using econometric methods, other than to confirm that statistical tests did indeed confirm a change in behaviour, so they had a qualitative fossick instead, based on what the RBA had been picking up from its regular programme of going round and talking to businesses ('liaison' in central bank geekspeak).

Increased competition appears to have been the reason (my emphasis added):

Liaison with retailers suggests that over the period of interest, competition in the retail sector has intensified, partly due to increased supply. There are numerous sources of this increase in competitive pressures, although some key themes have emerged from liaison.

• Technology has enabled consumers to compare retail prices quickly and easily online and determine which retailer(s) are offering the lowest prices. The increasing online presence of traditional bricks-and-mortar retailers is contributing to this effect.

• Relatedly, the supply of retailers has increased due to competition from foreign online retailers. This was particularly evident over 2010–13 when the exchange rate was relatively high...Over this period, domestic retailers became relatively less competitive against competitors based offshore.

• Both established firms and new entrants, including international retailers entering the Australian market, are competing aggressively to gain market share

They also found an interesting phenomenon where in a number of sectors, there was an especially aggressive competitor who was making life tough for the rest of the players:

In a number of market segments, liaison has attributed the increase in retail competition to the actions of a perceived ‘market leader’, which is generally looking to expand their market share, effectively increasing supply. This has led a number of retailers to report that they believe demand for their goods is very price sensitive, and fear that they will lose sales volumes if they increase prices. Earlier work on Australian retailers found that a majority of firms primarily set prices based on the balance of supply and demand factors, such as market conditions or competitors’ prices, rather than setting prices as a fixed mark-up over costs

Competition in turn was forcing firms to improve their efficiency if they wanted to maintain previous levels of profitability, pushing them to look for "labour productivity gains through technological improvements, such as contactless payments systems, self-serve checkouts and better monitoring of staffing needs" and "other means, such as bargaining for lower rents, improving inventory management, sourcing from fewer suppliers, partnering with other firms to lower distribution costs and centralising some administration tasks".

What a nice textbook outcome from increased competitive pressures: consumers have got a better deal, and producers have been pushed to improve their productivity. And it comes in a week where the latest instalment of MBIE's electricity price monitoring showed that retail electricity prices had dropped for the first time in 15 years, which MBIE said "was driven by increased discounting activity and incentive credits" - greater competition, in other words. Carl Hansen, the CEO at the Electricity Authority, said that the price fall "is one of the many indicators of strong competition in [the] residential electricity market. Another indicator is that smaller retailers have now grown their market share to 10 per cent which is putting significant pressure on the larger retailers".

It may be making a meal of the obvious, that competition is pro-consumer and pro-productivity, but the message doesn't always get through in New Zealand, or elsewhere. The lobbyists for the quiet life in sectors such as education, health and the professions are good at running the pro-producer line, and (like in bunfights over trade protectionism) the voice of the consumer doesn't get the hearing it should.

We need more competition across more markets, and you don't have to take just my word for it. The OECD, in the chapter on New Zealand in the latest update of its Economic Outlook, said that "Reducing barriers to FDI [foreign direct investment] and to competition in the electricity, transport and telecoms sectors would facilitate greater investment and innovation, increasing productivity and reducing prices". There's work to do if we're going to have the retail price and producer productivity benefits Australia is enjoying, and more of our utility bills going down.

One-way traffic - or is it?

Today's Monetary Policy Statement (here are the links to the press release, the full thing, and the webcast press conference) went much as expected - overwhelmingly, forecasters had expected the Bank to stand pat, and it did, and generally they (and the Bank) expect one more 0.25% cut somewhere down the track, assuming that the next GDP and CPI data don't spring any major surprises.

The likely track of interest rates consequently didn't get a lot of airtime at the press conference, partly because it was assumed as obvious, and partly because the media were much more concerned about other things, especially the housing market and the prospect of further potential macroprudential controls. They were also somewhat interested in various accountability issues: has the Bank failed to keep inflation high enough? Has it been communicating well enough?

I was left wondering, though, whether this blasé assumption of a bleedingly obvious track for interest rates is as well founded as people seem to think. For one thing, as the Statement said (p28), the world's an uncertain place: "the paths key variables ultimately take may differ from the projection because of changes in economic relationships, the wide range of uncertainty around key assumptions, and unforeseen developments". Economies don't always play nice with consensus forecasts, even strongly or widely held ones.

And I was also struck by this graph, where the Bank showed how interest rates would need to behave if things panned out differently - if the Kiwi dollar didn't depreciate (the green line), or if house prices kept rocking along and people started to splurge some of their winnings (the red line).

I don't think there's a person in the country that thinks interest rates could go up in the next year or eighteen months. But that's essentially the same as saying, there's a zero probability of the "spend some of our housing gain" scenario. And I don't think it's a zero probability at all: on the contrary, it sounds like an entirely possible, and entirely understandable, way that things might play out.

I wouldn't say the current consensus on interest rates has become an outright "Nonsensus, n: a belief held by a majority or large dominant proportion of a population that is nevertheless complete bollocks" (as 'Lew' wittily put it on Twitter the other day). But I would say it's on the complacent side: interest rates have departed from the script in the US, the eurozone, Japan or Australia in recent months, and they could very easily do the same here.

Those falling Auckland housing consents - an update

Last month I wrote about the downturn in Auckland housing consents and wondered what was going on (and is still going on, as yesterday's release of April data from Stats showed). Lots of people have been wondering, too: the post got (by my blog standards at any rate) a lot of views.

A helpful reader, 'energy24.7', left this comment:

Check the raw numbers for consents. You'll pretty quickly see the downturn in trend is due to reduction in the volatile apartment series. Houses are still on their way up (excepting a little seasonal variation). But I'm not saying they're anywhere near where they need to be, just it explains the downturn in dwelling trend

And energy24.7 is absolutely right. I'd steered away from the seasonally unadjusted numbers so as to get a better feel for the underlying trend, which is fine in many circumstances, but the baby that went out with the bathwater was the information in the raw data. So here it is*.

And as energy24.7 said, the fall is indeed down to apartment numbers dropping to virtually nothing, while house numbers have been gradually increasing.

Which all brings us to a new question, though: what's going on in the apartment sector? There are umpteen possibilities (and I'm hoping more housing-expert readers will chip in with their views). It could, for example, be happenstance: it's a fairly volatile series. But I'm not convinced: you'd expect apartment consents to be well above the minimal, credit-constrained levels of the GFC. Or it might be capacity constraints, though again that doesn't feel especially plausible.

Or are developers waiting for a potentially more intense-development-friendly environment under the new Auckland Unitary Plan? If so, we're in for at least a few more months of very low apartment consent levels, as the recommendations from the Plan hearings panel won't go public till July 27, and even then we don't know whether the Council will buy into them (they've got to notify their decision by August 19). And then there will be lags while developers go through the hoops of whatever planning process emerges from the whole debate.

Whatever it is, it needs to be fixed, pronto. Falling levels of apartment consents are the very last thing the Auckland housing market needs.

*An earlier version of this graph had the lines mislabelled (houses and apartments were the wrong way round). It's right now. Thanks to alert reader Mark who picked it up.

The state of telco play, 2016

The Commerce Commission's latest annual report on the state of our telco markets came out last week. At the time I was too busy on other things to give it a good read - and if you're also up to your eyes, then there's a media release and a cheat sheet infographic to give you the gist - but I've now got round to it and, like the previous ones, it's well worth a look (my comments on earlier ones are here and here).

Before getting into some of the details, I'll just say - again - that we have a daft system for regulatory review of what's happening in our markets. The Telecommunications Commissioner, who is part of the Commerce Commission, is required to conduct and publish reports on what's going on in telco markets (under s9A of the Telecommunications Act 2010), but the Commerce Commission itself is forbidden to do it in any other markets (under the courts' reading of the Commerce Act). There are people in the bowels of MBIE looking at the discrepancy at the moment: let's hope they come down on the sensible side of the fence.

And there's a good example in this latest report on how proactive enquiries into the state of competition might work. The report was looking at market shares in the mobile market (p36):

We have noted 2degrees’ very small share of business market revenues in prior reports. We commissioned UMR to undertake a survey of the business mobile market in the latter half of 2015 to gain a better understanding of the market and check if there were any barriers to expansion. Overall, the survey revealed no evidence of anti‑competitive behaviour.

Excellent - the Telecommunications team found something odd that might have been an issue with competition, investigated it, and was able to blow the All Clear. Exactly what should be happening in every other sector of the economy.

This year's report is mostly a record of solid, ongoing progress in the sector, with greater uptake, faster speeds, decent levels of consumer choice, and somewhat lower prices (more obviously lower when quality-adjusted). Your interests may be different, but here are a few thoughts that occurred to me.

This is the graph showing how broadband download speeds have been improving.

All well and good, but the set of comparators looked a bit idiosyncratic. Where are the smaller OECD economies like Denmark or Ireland or Switzerland that we might normally want to match ourselves against? And why Malaysia, of all places? So I went to the original Akamai report these numbers came from, and I was able to find a table of download speeds for a wide range of Asia-Pacific countries (including us), and also a table of European speeds.

By Asian standards, we're doing pretty well, especially when you consider that some of the very densely urbanised countries like Korea, Hong Kong and Singapore must be a good deal easier to serve, compared to us having to trench our way up the Cobb Valley. But by European standards, we're not such hot stuff, even when compared with long, skinny, thinly populated places like Norway and Sweden which must have similarly challenging geographies.

If we were a European country, we'd rank only 21st on that table (behind Poland, ahead of France). And globally we rank 41st in the Akamai universe - not so flash. We'd expect to be somewhere in the top 20 on most other economic measures (the other day we came 16th in the latest World Competitiveness Rankings, for example). So by all means let's be happy that speeds have improved, but also let's be aware that we are (for whatever reason) still well behind the sorts of speeds our kids on OE can get (unless they're in Australia).

There was also a fascinating chart showing the extent of pent-up demand in New Zealand for decent online content, after years of limited choice, long delays, and high prices. The little arrow on the chart shows the immediate and ongoing surge in data consumption when Netflix arrived. I can only begin to imagine the existential angst in the strategic planning units of our telco and media companies: some current business models can't hold.

Finally, on the regulatory front, the report noted (p30) that

The wholesale cost of terminating a phone call on a mobile network is called the mobile termination rate and is regulated in nearly all countries. We last reviewed the mobile termination rate on 5 May 2011, and the last regulated reduction prescribed in that determination was to 3.56cpm (excluding GST) on 1 April 2014. The ACCC last year set the mobile termination rate for Australia at A1.7cpm, and as at July 2015 the weighted average for Europe was 1.22 eurocents per minute.

There is no obvious reason why our mobile termination rates should be well in excess of those overseas - at current exchange rates, roughly twice Australia's, and roughly 75% higher than Europe's. The technologies are the same, and on some opex costs we should be cheaper (our wage bills are lower, for example). I'm no great fan of extra regulation, and still less of extra price control regulation, but if the subtext of "We last reviewed the mobile termination rate five years ago" is "And, you know, it's about time we had another look", I reckon the Telecommunications Commissioner is on the right track.

Overoptimistic Budget forecasts?

My post yesterday about the Budget concentrated on what I thought were some of the key higher level issues. But perforce you can't cover everything, and I didn't spend any time on whether Treasury's economic forecasts looked plausible or not.

Reading the various Budget commentaries that have come out since, however, apparently it's an issue that bothers some folk. So in an effort to clear the air, here's a table that compares Treasury's main forecasts (finalised on April 13) with the latest set of consensus forecasts collated by the New Zealand Institute of Economic Research (published on March 14). I've made them a bit more comparable by using Treasury's March year forecasts, rather than the headline June year forecasts in the Budget, and which are available on p138 of the Budget Economic and Fiscal Update: this matches the March years used in the consensus forecasts. There are still differences between them (eg some March quarter compared with full March year numbers), but they make no real difference. The Treasury set go out a year further than the consensus does.

My conclusion? They're not identical twins, but they're clearly describing the same economy. Treasury's got a slightly stronger GDP track, and when you unpack it and look at the more volatile components of GDP (house construction and exports), you find it's down to Treasury expecting a bigger and longer burst of housebuilding than the consensus did, and they could well be right.

There may well be a timing element involved, too. The set of consensus forecasts was collated after a very rocky period for global markets in January and the first half of February, when people had been anxious over the prospects for global economic activity (and particularly over China), and this may have helped produce a slightly weaker GDP outlook compared with Treasury's set, which had the benefit of seeing markets recover confidence in March.

But these are marginal points around the edges. For all practical purposes the Treasury forecasts aren't meaningfully different from the consensus. There's the odd item I'd quibble with - I wouldn't be surprised, for example, if Treasury's expected drop-off in net migration didn't materialise to the extent they think it will - but overall there's not a lot of evidence that Treasury's forecasts are idiosyncratically off the mark or systematically biassed.

And if you've still got some "smoke and mirrors" conspiracy view of the Budget numbers and projected surpluses, as I mentioned yesterday the overall picture of the fiscal position gradually moving into growing surplus comes through even when you use the alternative, lower growth scenario that Treasury also modelled in the Budget documents.

No drama - and that's fine

First thing I'd say about today's Budget is that I hope the central economic forecasts work out as expected. If we do indeed get annual economic growth of close to 3% a year, low inflation, and the unemployment rate gradually falling to 4.6% by 2019, we'll be doing quite nicely, thank you. The growth numbers aren't as hot if you do them on a per capita basis, as you really ought, but even so 1.3% a year isn't too shabby. And a 4.6% overall unemployment rate does a power of good for getting more marginal groups into employment.

The Budget is one of the few places where people can get some sort of feel for one particular facet of the economic outlook, namely what is likely to happen to business profits in coming years: we don't yet have a Statistics NZ measure (most other countries do), but fortunately Treasury has to forecast them to get a handle on likely company tax. For agriculture, it's not pretty, as you'd expect given the loss-making level of dairy prices in particular: agricultural profits are expected to have dropped by 5.6% in the March year just finished, and to drop a little more (‑1.6%) in the year to next March, before snapping back smartly in the years to March '18 (+29%) and March '19 (11.5%).

For non-agricultural businesses – the bulk of the economy – profits went up only 2% in the year to March '16, are expected to grow only slowly in this current year to March '17 (+1.0%) and to do rather better in the following two years (+8.75% and +7.25%), though it's far from a profits bonanza. Currently, our share market is trading on a historically high valuation: that is partly down to low interest rates making equities relatively more attractive but (if these Treasury numbers play out) it may also be down to unrealistically optimistic expectations on corporate profits.

There were no big tax or spending initiatives, and that's good. We may have more of a splurge next year as an election looms closer, but not this time round: on Treasury's measure of the 'fiscal impulse', this year's Budget was effectively neither expansionary nor contractionary. And that's okay: “steady as she goes” is – mostly – fine. Outside emergencies, we don't need abrupt, unsignalled change in fiscal policy. We certainly don't need populist Finance Ministers splurging to win elections, or running perennial deficits to build taxpayer-funded clientèle constituencies, which has been the fiscal downfall of a number of European exchequers. And the fact that our government finances are now in good shape by developed economy standards is a tribute to a succession of Steady Eddies in both major parties – not that they get much credit at the time from the squeaky wheels demanding public grease.

It's good to know too that the fiscal surpluses look reasonably robust to whatever the economic outlook eventually throws at them. As usual, Treasury runs some alternative 'better' and 'worse' scenarios, and even on the 'worse' outlook, the fiscal outlook remains solid. There are borderline deficits/surpluses for a couple of years, and then surpluses re-emerge in 2019 and 2020. And you can see other evidence of fiscal responsibility elsewhere in the Budget data. Since the last major economic update last December, for example, expected tax revenues over the 2016-20 period have improved by $3.6 billion, which in some hands would have been an excuse for a knees-up: in fact,  expected spending has been revised down by an equal $3.6 billion.

I've qualified the fiscal outlook as “reasonably” robust, because there's still one factor in the background that's flattering the accounts, and that's our export prices. Sure, dairy prices are at a low ebb, but overall the country is still benefiting from export prices that are still substantially above their historical averages when compared to the cost of the things we import (our 'terms of trade'). Maybe they'll stay there. But maybe they won't. If they didn't, our fiscal picture would look more like this.

The dark blue line shows the fiscal deficit, adjusted for the state of the economy (the 'cyclically adjusted balance', or CAB), as a percentage of GDP. As a general rule, it's a much better guide to the true state of the fiscal books than the headline number you'll see in the newspapers, but at the moment it doesn't make a lot of difference as both the headline number and the cyclically adjusted number are showing the same thing: a modest surplus gradually turning into a more substantial one. But the dashed line shows what the deficit would be if our export prices compared to our import prices dropped back to where they've been on average over the last 30 years. We'd still be in deficit – not a big deficit, and even from this downbeat perspective we'd be back to breakeven by 2020 – but it's just worth remembering that, while we have been good fiscal managers in recent years, and genuinely do have some room to manoeuvre if we want more spending or less tax or less government debt, we still wouldn't want to go mad about it.

The tweak around the edges I'd have liked to have seen would have been more infrastructure spending, partly because we're short as things stand, partly because I think it's part of the answer to getting that 1.3% per capita growth up to something  more substantial, and partly because borrowing costs are exceptionally low, so it's an excellent time to borrow to pay for assets with a long-lasting payoff. And one of the handout blurbs was headlined “$2.1 billion investment in public infrastructure”, which sounds at first blush like it got adequate attention.

But that's a total over four years ($700 million in opex, $1.4 billion in capex): per annum, it's not a lot in the great fiscal scheme of things. And it's also hugely dominated by the upgrade to the IRD's computer systems, which are going to cost a scarcely believable $1.4 billion ($1.06 billion opex, $350 million capex). Some of the rest is merely keeping pace with the growth in population (new schools are required, for example) or replacing and strengthening Canterbury infrastructure. There's very little left that you would regard as a genuine increment in the amount of infrastructure per capita – and little or nothing specifically targeted at the biggest infrastructural deficit of all, the one in Auckland.

More positively, it's good to see that Treasury plans to make at least some use of current exceptionally good borrowing terms. There are plans for a new 20-year bond to be launched later this year. That's a start, but other countries are way, way ahead of us in taking advantage of the current global borrowers' market. Switzerland has just done one for 42 years, France for 50, and Belgium (!) and Ireland (!!) have managed 100 year issues.

Overall? There were some nice micro measures (like funding for more apprenticeships and other aids to get people into jobs) – there may even have been too many micro programmes. But it was also missing a few things: there was a good deal of faffing, but less substance, on housing and multinationals' tax, and it should have done better, even within an overall conservative setting, on infrastructure. But, as I said earlier, not enough credit is given at the time to Finance Ministers who steer a steady course: another year of continuity and responsibility is a good outcome.

Why are Auckland housing consents falling?

Here's a rather worrying graph. It's the number of consents each month for new dwelling units in the Auckland region, on a 'trend' basis (the statisticians' best effort to remove seasonal variation and random noise).

I've put up the whole history of this series*, back to the start of 1995, because it tells us several interesting things. One is that, while people rightly point to a variety of reasons for Auckland's current housing shortage, one that tends to get forgotten is the GFC: at a rough estimate, at least 7,500 houses didn't get built in that period that would normally have been. And another is that despite the recent strong rise in consents, we're still not up to the best levels of the past (in the early 2000s), even though the need is much more pressing these days.

The thing I wanted to highlight, though, is the drop-off at the right-hand end.The number of consents has been falling since September and October - it was 812 in both those months - and has since dropped to 766 (in March, the latest date available).

It's certainly a very odd development. It seems at variance with what you see on the ground in Auckland. Sure, there are lags between consents and construction, and a lot of the current activity could be down to the higher levels of consents issued earlier last year, but if there was a genuine drop-off in the housing consent pipeline over the past six months, you'd think you'd be seeing some slackening off in actual construction activity by now. And you're not, at least on my subjective 'economics by walking around' assessment. Everywhere I go around Auckland's North Shore, there are new developments I hadn't seen before.

Given that the data, at least to me, don't line up with the reality I see, I've been doing a bit of tyre-kicking with the ever-helpful Statistics NZ staff, on this occasion Danielle Barwick in the Christchurch office (and I should say all views here are mine, not hers).

My first thought was perhaps the number of dwelling units per consent might have been going up. Ten years ago, perhaps the 'typical' consent was for one detached house: maybe, these days, one consent could be for 20 terraced townhouses? Some of the new developments are high-density indeed: here's one I snapped today at Silver Moon Road in Albany.

So consents, perhaps, could be going down but with increasing dwellings per consent, dwellings could still be going up? Nope. A single consent for a 30 house development gets counted as 30 dwelling units.

There is another possibility, though. At the early stages of a project, there can be a consent for the earthworks part of a project: at that stage the final shape of the development isn't yet known (so Stats can't put a dwellings unit number on it, though they will when it's finalised). You could have a single consent actually representing a very large project until the full size gets logged later. And if there are a lot more of those happening - and there are lots underway, here's another local one, off Spencer Road, again in Albany - then the consents numbers could be temporarily lower but the pipeline could actually be getting larger.

Maybe that's part of the answer, and we'll all be relieved when these earthworks-stage projects eventually get counted at their full value. Maybe something has fried the brain of the trend-identifying algorithm, and it'll all come right with a few more months' data. Maybe the planners have been experiencing some kind of consent back-up or logjam (though they've been handling higher numbers in the past, so why now?). And it could be that this recent drop-off in consents is just one of those things: there have been fluctuations in the past that went against the longer-term trend for a while before getting back on track.

At the moment, though, it looks distinctly odd. And if it keeps up for any further length of time, it will go from 'distinctly odd' to 'downright alarming'.

*You can find it for yourself, if you're minded, on Stats' Infoshare service, search for the series identifier BLDM.SF021100A1T

Quick reactions to the Z/Chevron decision

The decision is out and it's pretty much as outsiders would have picked (and I should add I'm an outsider, not having advised any of the parties involved) - the likelihood always was (at least for petrol stations) that it would be either a clearance with divestments, or a decline, and we've ended up with a split decision, a 3:1 majority for clearance with divestments (19 petrol stations and 1 truck-stop), with one vote for a decline.

We don't have the full written decision yet, but the press release says the sticking point for the split decision was the possible increased risks of price coordination. The majority thought that "the loss of Chevron would make no material difference to this behaviour given its passive role in the market as a wholesale supplier. The likelihood of Chevron being an effective constraint on coordination in the future is low, even if sold in the future to another party". Dr Jill Walker in dissenting felt that "there is evidence of tacit coordination between petrol retailers in some regions, primarily where Gull is not present, and that this has contributed to increasing margins in the petrol industry" and that "the permanent removal of Chevron’s assets as an independent supply chain means its potential to disrupt coordination is gone and this behaviour would become more firmly entrenched post-merger".

I had three immediate reactions.

My first was that I was pleased to see a split merger decision: there haven't been many of them (the last one, from memory, was Ezi-Pay in 2012, which was a split decline). Yet the merger applications that come into the Commission these days tend to be complicated and borderline beasts, and frankly it would be very surprising if everyone invariably saw them the same way. For me split decisions suggest there there is indeed that "robust mix of viewpoints represented around the decision table" that I mentioned earlier this week.

My second was a quiet wonder to myself whether Australian and New Zealand attitudes to mergers (and arguably to competition issues as a whole) might be diverging: the majority were Kiwis, the dissenter the Aussie cross-appointee to the Commission. Could be entirely happenstance on the facts of this case, or it could be that the Aussies (rightly or wrongly) are taking a more hardball (or conservative, pick your own word) to competition risks. Sometimes the Aussies in my view go too far: I'm not yet persuaded, for example, that their actions to stop the supermarkets giving out very large petrol discount vouchers ('shopper dockets') were necessary. And some might argue that it's fine for the two jurisdictions to take different lenses to issues. All the same, it's probably best, if only to make trans-Tasman mergers more predictable, if there's a consistent perspective on both sides of the ditch. Perhaps there is, and the split-by-nationality is of no significance. Or perhaps there isn't, in which case it might be useful to explore how the two countries' regulators think about issues such as price coordination and the loss of potential disruptors, and how you assess economic evidence on the issues.

My third reaction is one that won't surprise readers of this blog, and that is the absurdity of the Commission's limited powers to look at the state of competition in markets. In this case, the Commission examined "whether coordination was already occurring in the retail [petrol station] market": it pointed out that even if it were, it may not be anything illegal, and that "The behaviours occurring in the retail fuel markets in New Zealand, such as price following, regional pricing differences and rising margins, can occur in both coordinated and competitive markets".

But it also said that "The majority of Commissioners consider it is possible, though not definitive, that coordination is occurring in some local markets. However, where they may have had the most concerns about coordination occurring post-merger, they consider the divestments remedy those concerns". Dr Walker, however, was not convinced: as noted above, she felt it was happening already.

The stupid thing is that this behaviour - potential, suspected, actual, benign, malign, whatever - only got examined because, fortuitously, a merger came in the Commission's window and triggered a look. The Commission has got no formal power to have a look off its own bat, even though it has a very good feel for where these coordination issues are likely to arise, and would know where to beat the bushes. I've gone on and on about the need for the Commission to be able to conduct 'market studies': it was already screamingly obvious that they should (assorted process issues can be dealt with), and this latest decision is yet more evidence why there's a problem. The government needs to get off its chuff and fix it.

An insider's view of mergers

Last night's LEANZ seminar, 'An Insider's Reflections on Merger Clearances', was a cracker. David Blacktop, the Commerce Commission's Principal Counsel, Competition, has seen merger proposals from both sides of the fence (he was at Bell Gully previously), and there's not a lot he doesn't know about the principles and the process.

First, David gave us some data. Currently the overall 'decline' rate from the Commission is about 10%, though if an applicant gets to the knotty 'letter of unresolved issues' stage (and 11 out of 54 applications ended up in that particular 'this is a really hard one' basket), the odds of a decline are about 50:50 (6 cleared, 5 declined), which is what you'd expect. Whether this is too low, too high, or just right is anyone's guess, but as there have been some people arguing that merger clearances (at least in the US) may have got too lax (as I discussed here and here) I asked him what you need to do, as a merger regulator, to guard against inbuilt biasses. His sensible answer was, ensure there's a robust mix of viewpoints represented around the decision table.

David also gave us some good data on timeliness. The time to process a decision has been rising - David joked that it coincided with his arrival, and I joked that it timed with my departure - but as David said, the simple 'average' across all applications of somewhere in the low 60s in working days (12 or 13 calendar weeks) doesn't really give you the proper flavour. Relatively straightforward ones get done in 43 working days (8-9 calendar weeks). 'Letter of issues' ones have the letter issued on working day 38, and get put to bed in a total of 71 working days (about 14 calendar weeks). The knottiest 'Letter of unresolved issues' ones have their letter issued on day 72, and take 107 days to a clearance and 108 days to a decline (with the extra day to get the reasons for the decline written up right), or some 21-22 calendar weeks.

There may be some internal resourcing issues - the regulation side of the Commission has been taking up a fair chunk of availability - but the most likely explanation (in my view) is that the longer time to a decision is largely the result of recent ones being both more complex and more borderline in their competition effects. The biggie currently inhouse - Z Energy/Chevron - rings both bells, and (assuming it comes out tomorrow as indicated a while back) it will have taken ten months from start to finish.

David also highlighted a somewhat unusual feature of some recent merger declines. Two of them were very similar - specialised businesses built up in provincial towns, with the owner looking to retire and sell the business in a trade sale. Trouble is, in many of these situations, the only trade buyer is highly likely to have a local monopoly. And the legal costs of getting to a decline will be disproportionate to the value of the business and the size of the local market.

So, what do you do? Should we have some minimum dollar threshold, below which the merger regulator will simply not be bothered - even if this leaves some provincial town paying over the odds in some (probably small, probably specialised) markets? Instinctively you think, that's not very equitable, but realistically you also realise that the costs of the full process are completely OTT for these situations. My own feeling, having been involved in some of these decisions, is that it's often going to be the case that over the longer haul there's only room (in a minimum efficient scale sense) for one provider in many of these towns, and that what looks like a merger of two to one is effectively bringing forward what was going to happen in any event. If an applicant supplies evidence showing that, across New Zealand, there's typically only one specialist provider in towns of that size, the merger regulator should be more ready to press the green button.

David raised a number of other interesting ideas. For example, do we have a sufficient range of potential remedies to cope with potential merger detriments, given that divestment is a blunt instrument? And where are we in terms of transparency and confidentiality? We ran out of time to get into that issue properly, but for what it's worth I think we could, without prejudicing commercial confidence, expose a bit more of the process, particularly around letters of outstanding and unresolved issues.

Another excellent LEANZ evening - and it makes me think (again) that the NZ Association of Economists could usefully have an equivalent series of seminars on other topics. Well done to all involved, and special thanks to James Mellsop and Will Taylor* at NERA for hosting the event. Let me know when you're opening some more Akarua Rua Pinot Noir.

*11/05/16 An earlier version got Will's name wrong. Apologies.