Creating an independent regulatory framework in an imperfect world

Rohan Samarajiva

LIRNEasia, Sri LankaSamarajiva@lirne.net

Purpose of presentation

Identify key challenges in establishing an independent regulatory framework and

Provide practical guidance on regulatory design, drawing on Speaker’s experience in regulatory

design and implementation, and International best practice

Why independent regulation? Not truly relevant if entire ICT

infrastructure is supplied by a single, integrated, government-owned monopoly E.g., Bhutan (but independent regulator

created in 2000 because of intention to allow some private participation)

Pre-requisites are Industry unbundling Private participation allowed or planned

The problem of expropriation If you want private investment, you have to

provide assurance investment will not be expropriated If risk is very high, no investment If high, skewed toward the short-term and high

returns; also high cost of capital yields sub-optimal performance along dimensions of Connectivity Price/quality Choice

Expropriation: outright & administrative

Nationalization is no longer a significant problem Treaties, arbitration, insurance as

remedies Administrative expropriation = being

nibbled to death, e.g., Promised, legitimate price increases are

not given, or delayed Compelled to buy from Minister’s

brother-in-law’s firm at a premium

Administrative expropriation Administrative expropriation = being

prevented from making a reasonable return on investment per expectation at point of investing, usually through a series of actions (not decisive when each taken alone), resulting in de facto expropriation of the investment

Not necessarily telecom specific; can be through tax laws, customs authorities, etc.

Any government can engage in admin expropriation, directly or through proxies

What’s the special concern re developing countries?

Scandinavia, Australia, New Zealand achieved excellent telecom performance without formal regulation, independent or otherwise

Japan, Chile, and Israel do not have independent regulatory authorities, but have shown good performance

Even Singapore’s IDA is not truly independent, but was seen as model

What’s the special concern re developing countries? Concern is that developing country

governments are more likely to engage in expropriatory behavior

Even if not true, perception exists; has to be addressed

Especially after April 2000, private investment in telecom has declined; sellers’ market in investment requires actions to change perception/reduce risk

Independent regulation as a response to investor concern: independence is a means, not the end

Telecom Investment in Developing Countries (USD bn)

0

10

20

30

40

50

60

70

1993 1994 1995 1996 1997 1998 1999 2000 2001

Inve

stm

ents

(USD

bill

ion)

What is so special about ICT infrastructure?

Investment in any area of economy requires safeguards against administrative expropriation Insulation of administrative officials from day-to-

day interference by politicians Constrained discretion, supervised by some form

of judicial body Adherence to rules of natural justice or due

process Protection from procrastination and

incompetence

What is special about ICT infrastructure? Investments in infrastructure industries

have long gestation periods, radically diminishing the power positions of investors after investment has been made

Previously/currently government-owned incumbent telcos have motive and capability to expropriate, as private investors in many countries have learned through bitter experience Interconnection is an especially good

expropriation mechanism

Practical actions to establish independent regulatory framework

Proper market design at point of reform Second or third best solutions cannot be ruled

out Preset regulatory framework, reducing

discretion as much as possible Provide for competent and adequately

endowed regulatory agency Get proper leadership and staff

Confident, competent, courageous, communicative, committed

Practical actions to establish independent regulatory framework

Proper market design at point of reform Second or third best solutions cannot be ruled

out Preset regulatory framework, reducing

discretion as much as possible Provide for competent and adequately

endowed regulatory agency Get proper leadership and staff

Confident, competent, courageous, communicative, committed

Competition wherever possible; regulation where necessary Remove/reduce entry/exit barriers as

much as possible Unbundle integrated monopolies Allow market entry in as many areas as

possible

Remedy problems caused by essential facilities and nodes of market power

Establish access regimes Regulate to make competition possible

Competition wherever possible; regulation where necessary Safeguard consumer through use of market

forces Address information asymmetries and anti-

competitive behavior if necessary May include price and quality regulation where

monopolies/tight oligopolies persist But innovative approaches preferred to

direct “price control” Pre-condition is unbundling policy

(Ministry), regulatory (NRA) and operational (multiple operators) functions

Competition . . . Unbundle optimally

Break at the boundaries of essential facilities and the potentially competitive E.g., do not allow same firm to operate

backbone network, cable landing stations, satellite gateway as well as access network

But very rare, because of Incumbent resistance Employee/union opposition Time necessary to unbundle properly is rarely

available Concerns re maximizing sale proceeds US, UK, Sri Lanka, India, all got it wrong

Competition . . . Essential facilities that cannot be

economically duplicated: Best case: auction on basis of

competition for the market Most cases: incumbent gets control

At least make sure equal treatment, e.g., must pay for licenses, frequencies

Subject to a well-drafted license/concession contract

If retained with integrated operator, ring fence and create safeguards for competition

Competition . . . For the rest: Individual licenses where

scarce resources are required; authorizations otherwise Discretion only where frequencies, number

blocks, and rights of way are involved Use well-designed auctions to constrain

discretion (with revenue enhancement as secondary objective)

Otherwise, post the criteria and authorize anyone who meets them to enter Government does not decide how many players Market decides the number

Practical actions to establish independent regulatory framework

Proper market design at point of reform Second or third best solutions cannot be ruled

out Preset regulatory framework, reducing

discretion as much as possible Provide for competent and adequately

endowed regulatory agency Get proper leadership and staff

Confident, competent, courageous, communicative, committed

Preset regulatory framework: interconnection

Interconnection rules to be promulgated, along with default termination rates and points of interconnection Very difficult to define specific

interconnection points without engineers from both sides participating, but do it

Will need international experts; do not rely on former/current incumbent officials

Preset regulatory framework: tariffs

Forget about price cap/revenue cap regulation that involves esoterica such as calculating cost of capital and productivity factors, at least for first few years

Keep it simple Constrained discretion Limited expertise required

Preset regulatory framework: tariffs Best case I: If small number of new entrants

Have them bid on values of the components in a pre-set formula; reset the formula in five years or so

Minimize pass throughs and exchange-rate factors because ICT infrastructure technology is dropping in price

Best case II: If significant number of players Unregulate prices of all but the incumbent Adopt and implement simple rate rebalancing

plan for incumbent

Preset regulatory framework

Objective In the most controversial cases,

regulator should be able to say, I cannot do what you ask me to do, rather than I will not do

In the first few years, the regulator should be cooking from recipes, not inventing new cuisine

Practical actions to establish independent regulatory framework

Proper market design at point of reform Second or third best solutions cannot be ruled

out Preset regulatory framework, reducing

discretion as much as possible Provide for competent and adequately

endowed regulatory agency Get proper leadership and staff

Confident, competent, courageous, communicative, committed

Competent & adequately endowed regulatory agency While it may be possible to do without ex-ante

specialized regulatory agencies and minimize even ex ante roles in industries such as port services, that is not the case with ICT infrastructure

Not possible to write concession contracts that would address all contingencies Pace of technological and market changes does not

allow too much fixity Complexity and interleaving of ICT networks require

some bespoke solutions Competent, independent regulatory agency

Competent & adequately endowed regulatory agency

Many countries (or the consultants who work for them) write nice laws, but the key is effective implmentation

Necessary conditions = laws and subsidiary legislation

Sufficient conditions = people and what they do

Necessary conditions (examples from Sri Lanka’s multisector agency)

Own fund; financed through regulatory levies

Accountability to Parliament through annual report

Staggered appointments of members by Prime Minister with concurrence of Constitutional Council Constitutional Council is broadly representative Bipartisan input into appointments as

governments change Continuity

Necessary conditions (examples from Sri Lanka’s multisector agency)

Five members defined by subject expertise and experience Part-time

Removal only for cause by Parliament Director General (CEO), appointed by

Commission Government has no role Attend meetings, but no vote Separate “proposal” and “disposal” functions

Necessary conditions Requirement to have a regulatory manual,

setting out procedures Provisions for public hearings and

consultations Mandatory for some purposes in some countries

Insulation from “line” ministry, which tends to represent the partially reformed incumbent Line Ministry has no role in appointments Policy directions may be given only in writing

through Cabinet (screens against arbitrary directions)

Practical actions to establish independent regulatory framework

Proper market design at point of reform Second or third best solutions cannot be ruled

out Preset regulatory framework, reducing

discretion as much as possible Provide for competent and adequately

endowed regulatory agency Get proper leadership and staff

Confident, competent, courageous, communicative, committed

Sufficient conditions: Implementation Organizational structure, recruitment and

training that Realizes economies of regulation Emphasizes commitment to “new” regulation

How to enable, not restrict Breaks from command and control mindset Does not create easy path from incumbent to

regulatory agency Adequate compensation packages to

attract persons with skills and potential

Sufficient conditions: Implementation Leadership matters

Confident Competent Courageous Communicative Committed

No confidence without competence; no results without courage; nothing without communication and commitment

Qualities should be inculcated in staff but leadership must have it to start with Look outside government and industry

Summary: Infrastructure reforms for improved sector performance If government works as it should,

regulatory risk is low Poor countries are poor because

Government does not work well regulatory risk is high investments are low/skewed infrastructure is inadequate economy is hobbled govt is impoverished does not work well

One solution: independent and effective regulatory agency

Regulation as a means, not the end

Can regulation work in countries like Sri Lanka?

Common responses Ineffective government will create

ineffective regulatory agencies Government/politicians will inevitably

interfere in regulatory agencies, even if they start well

The people with the confidence, competence, courage, communicativeness & commitment do not exist

Can regulation work?

What is the alternative to trying to make it work? Continuation of integrated government

monopolies, or Creation of private monopolies Neither will yield desired outcomes

Of islands and dikes (with credit to the Netherlands) An island (really, just a piece of low-lying

land) emerges from the ocean of bad governance The cause of its emergence is unimportant

Some people who like living on dry land move in and recruit like persons But it’s not quite dry

They work to make it habitable by draining it and building dikes to protect it from the surrounding ocean

Will the island survive? The work is hard and the dikes are

breached sporadically Some of the inhabitants tire of the effort and

think of returning to the aquatic life (ambiguous amphibians)

Others continue to labor, dreaming not only of dry and arable land but of expanding the island

For those who don’t like living in the ocean of bad governance, there’s no alternative to trying

Independent regulation is an opportunity, not a guarantee

Thank you for your attention