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Competition Policy

1 INTRODUCTION

Following the resolution by the Legislative Council on 17 February 1993 on fair trade, the Foundation feels that it is timely to begin a fuller discussion of competition in Hong Kong.

The legislators approved a motion calling upon the Government to maintain its fair trade policy and to take action, if necessary, to prevent unreasonable market dominance. This takes up a theme emphasised in the Governor's speech of 7 October 1992. There the Governor spoke of "public alarm" at the use of market power by suppliers in areas of special importance to the ordinary family's well-being. The Governor said that his new Business Council would be charged with the development of a comprehensive competition policy for the territory.

The Business Council has so far had little to say about competition. Indeed, the Foundation believes that the Business Council is not the appropriate body to develop a competition policy. Many of its members are from companies that enjoy a substantial share of the markets in which they participate. Such persons are hardly likely to have the independence to conduct a credible review of the issue.

The Foundation believes that the way forward is a review of industries in which there is concern about restrictive practices. Such review should be conducted by a body independent of both the Government and the business sector. The Consumer Council is an appropriate body to conduct such a review, although it will need more resources to do so effectively. It is also important that there is a proper institutional structure to monitor, and where necessary, enforce action necessary to maintain competition. The Foundation's recommendations for such an institutional structure, based upon the territory's existing institutions, are set out in section 3 below.

2 IMPORTANCE OF COMPETITION

There is little doubt that free competition is essential to economic progress. While there are examples of countries that have prospered at certain stages of their development under government-sponsored monopolies, the typical countries that restrict access to their markets are impoverished members of the third world.

A study by GT Management (Asia) (June 1992), finds a correlation between per capita income and the degree of economic freedom within a country. The study suggests not only that economic freedom leads to prosperity, but that greater economic freedom leads to greater prosperity. In other words, to climb the ladder of prosperity a territory must progressively remove restrictions on competition. Monopolies or government-directed industrial policies that may have been tolerable or even necessary at lower levels of development, must be dropped if higher levels of prosperity are to be reached. The failure of the Malaysian and Singapore Governments in the mid-1980s in their attempt to intervene in their economies, and the success of the subsequent reversal of this policy, are examples of countries having to drop formerly successful interventionist policies because they were no longer relevant.

The Foundation believes that this last point is relevant to Hong Kong today. The success of the Hong Kong economy over the last several decades is indisputable. However that does not mean that the policies that proved successful in the 1950s and l960s, when Hong Kong was much less developed, will also be appropriate for the l990s and beyond. The Foundation believes that new initiatives will be needed by the Government to break down barriers to competition; without such initiatives the Hong Kong economy may decline relative to that of our regional competitors.

Monopoly franchises

A central plank of the Government's economic policy has been to grant monopoly franchises in sectors where substantial investment is required. The sectors covered by such franchises include telecommunications, television, transport, electricity and aviation. A single telephone company has a monopoly over international calls until 2006, for example, while a single power company has a monopoly over supplying power to Kowloon and the New Territories until 2008.

It is a well-established tenet of economic theory that monopolies tend to produce less and at higher prices than would be produced under free competition. The consumer is forced to pay more than he should. Monopolies are therefore inherently undesirable. Why then has the Hong Kong Government granted monopolies over so many key sectors of the economy?

It is argued that the policy of granting such monopolies has been successful in that it has encouraged investment that might not otherwise have been made because of Hong Kong's uncertain future, and has secured good infrastructure for the territory. It is also argued that the small size of the territory and the large scale nature of investment needed in some industries make such industries "natural monopolies", at least for Hong Kong.

The Foundation believes that while this policy may have been appropriate for Hong Kong in its former less-developed state, it is appropriate no longer. The economy is now large, diversified and developed. It is unlikely that a single supplier can supply the range of goods and services that it now requires. Technological development has been such that few, if any, industries are now natural monopolies. Particular industries subject to monopoly franchises, such as power and telecommunications, are discussed in section 4 below.

The Foundation believes that the granting of monopoly franchises is an outdated policy that should be abandoned. The existing franchises, some of which stretch well into the next century, present a real risk to our economic progress. The Foundation does not recommend that they should be unilaterally renegotiated; rather, all existing legal contracts should be honoured. However where new technology or limited scope of the franchise agreement provides opportunity for other entrants to the markets concerned, such new entrants should be encouraged. It is particularly important, given the extent of monopolies in China's economic system, that Hong Kong develops as free and competitive a system as possible.

Where monopoly franchises exist under schemes of control the Foundation recommends that a price-based method of control, such as RPI-minus-x as is used for Hong Kong Telecom, be adopted rather than rate-of-return (ROR). ROR gives the supplier no incentive to control costs, and so encourages waste and overstaffing which are paid for by the consumer. The fact that Hong Kong Telecom was able to cut nearly 10% of its employees in March 1991 in anticipation of the change from ROR to the RPI-minus-x basis indicates the inefficiency of the former method.

3 INSTITUTIONAL FRAMEWORK

Many of the developed countries have complex and sophisticated structures for ensuring competition. They usually have anti-trust legislation, and a statutory tribunal, such as Britain's Monopolies and Mergers Commission, to which cases of restrictive practice are referred. Consumer bodies develop to lobby for parliamentary action on monopoly issues. And in some cases a specific regulator is set up to monitor each individual industry. Britain has its OFTEL for the telecommunications industry, OFGAS for gas and others regulators for other sectors. Would such a structure be appropriate for Hong Kong?

The Foundation believes that Hong Kong's legislators were right in rejecting the recent motion calling for the setting up of a Fair Trade Commission and anti-trust legislation. Hong Kong does not need more bureaucracy. Nor is it appropriate for public funds to be used to support citizen monitoring groups: such groups are free to develop on a voluntary basis as they do in many developed countries.

The better approach is to review the extent of the problem - as recommended in 1 above - and then to consider whether Hong Kong's existing institutions are adequate, or can be reformed, to perform the required monitoring role.

As stated in 1 above, the Foundation believes that the Consumer Council should have an important role in identifying and researching competition issues. The Consumer Council will probably need more resources and should be as independent as possible of the Government.

The Foundation notes that the Council is already conducting reviews of five industries, namely supermarkets, broadcasting, financial services, supply of energy and telecommunications, with an allocation from the Government of HK$800,000. The Foundation believes that this sum is unlikely to be sufficient for a thorough review of five major industries. Consideration should be given to providing the Consumer Council with more resources to ensure that its reviews are both through and informed. The Foundation also believes that the Consumer Council's independence would be enhanced if it were chaired by a person who is not a member of either the Legislative or Executive Councils.

However the Consumer Council cannot directly supervise each industry on an ongoing basis. It has neither the resources nor the expertise. The Foundation believes that it will generally not be necessary to directly supervise an industry to ensure fair trading if that industry is open to competition. Britain's OFTEL is only necessary because the UK Government chose to privatise British Telecom as a monopoly, with 95% of the UK market.

However, as already noted, certain industries in Hong Kong, such as telecommunications and power, are supplied by monopolies. Such monopolies must be supervised to minimise abuse of the consumer. At present the supervision is provided, in the case of telecommunications, by the Economic Services Branch and the Post Office. It is likely that neither body has the expertise to supervise the industry effectively. However, rather than set up an OFTEL on the UK model, which would require a level of resources and bureaucracy quite inappropriate to Hong Kong, the Foundation recommends that use is made where possible of the existing advisory committees.

At present the advisory committees tend to be dominated by industry representatives. Such representatives are essential to provide the expertise; however they need to be balanced by representatives of the consumer. The Foundation believes that directly elected board members, and officers of relevant consumer groups where such exist, would be appropriate to represent the consumer interest on the industry advisory committees. The appointment of such consumer representatives should not be left to the discretion of the Governor of the day but should be written into the constitutions of the relevant advisory committees. Such an advisory committee is needed to supervise each industry where there is a statutory monopoly.

4 INDUSTRIES THAT SHOULD BE REVIEWED

The Foundation presents below its recommendations of priority sectors for review in the development of a competition policy for the territory.

(1) Banking

The existence of more than 160 licensed banks, together with numerous restricted license banks and DTCs, might suggest that the Hong Kong banking market is highly competitive. However, this is not the case. The interest rate agreement under which all members of the Hong Kong Association of Banks follow standard interest rates on retail deposits and loans amounts to a cartel. The interest rate agreement, which deprives the small depositor of a fair return on his money, is a major anomaly in a territory that prides itself on being an international financial centre. It may also contribute to excessive speculation, and consequent instability, as frustrated depositors seek a better return by trading in shares or flats.

The Foundation recommends that the interest rate agreement be abolished, and other practices in the banking industry be reviewed with a view to encouraging more competition.

(2) Telecommunications

Most of the developed countries regard telecommunications as a key strategic sector. The rapid development of technology makes a potentially vast range of new services available to business and the consumer at ever lower cost. For Hong Kong, an international financial and trading centre, telecommunications are of critical importance. Without the very best telecommunications services that are available internationally, Hong Kong's competitiveness will decline.

A single company has a monopoly over local fixed line telephone services until 1995, and a monopoly over international services until 2006. This is a matter for concern. The company in question, Hong Kong Telecom, has a fair performance record, providing international calls for example at rates that compare favourably with those in overseas markets. However, under freer competition these rates would almost certainly have been lower still. A 1991 study of the Hong Kong telecommunications market claims that "international telecommunications users literally are paying twice as much as they need to be paying" (M.Mueller, International Telecommunications in Hong Kong: The Case for Liberalisation).

It is also impossible for a single company, however good, to provide the vast range of services that technology is making available. Hong Kong needs these services, or it will lose its advantage over competitors like Taiwan and Singapore. Already Singapore, with its Tradenet system, has a lead in data networks. The only way in which Hong Kong can obtain the range of services that it critically needs is through the admission of more competition.

As stated above, the Foundation supports the honouring of contracts and franchise agreements already signed. However the terms of the agreement and of the Telecommunications Ordinance need to be critically examined to ascertain the scope for introducing competition. It appears that while the Telecommunications Ordinance gives Hong Kong Telecom exclusive rights to provide physical circuits, it may be possible to allow other companies to lease its network to provide other international services.

The local voice services market will be liberalised in 1995. There should be an open licensing scheme, with different licenses available for different areas. Some areas may be able to support more than one operator. One essential element of introducing competition will be the ending of the present "free" local telephone service, i.e. the subsidisation of local calls by international calls. This will not be popular, but this anomaly has to end if Hong Kong is to enjoy a full range of telecommunication services at a fair price.

No further monopolies should be permitted in this crucial sector. In particular, the Tradelink system which certain private sector firms are developing (the equivalent of Singapore's Tradenet), should not be granted an exclusive franchise.

(3) Power

At present a monopoly over the supply of electricity on Hong Kong Island until December 1993 is granted to one company, and an equivalent monopoly in respect of Kowloon and the New Territories to the year 2008 to another company. The Foundation believes that careful consideration should be given to opening up the generation of electricity for Hong Kong Island when the current franchise expires.

The transmission and distribution of electricity is probably a natural monopoly: there is little point in setting up a second grid to compete with the existing grid, and no commercial company would consider doing so. However, there are no such economies of scale on the generation side.

Small power plants can be economical, and it is quite feasible for electricity generated from a number of sources to be distributed over the same grid. Hong Kong Electric buys electricity from China Light and Power; China Light and Power is also supplying electricity in increasing quantities to Guangdong Province. In Britain and the USA, competition on the generating side is well established. There is no reason in principle why companies that wished to do so could not establish power plants over the border in China, where costs are lower, and supply cheap electricity at least to Hong Kong Island. Serious consideration should be given to not renewing the present monopoly over the supply of electricity to Hong Kong Island when it expires at the end of this year.

(4) Broadcasting

The Foundation considers it an indictment of the Government's broadcasting policy that despite Hong Kong people's passion for television and new gadgetry there are only two Cantonese television channels. Vancouver, a much smaller city than Hong Kong, has more than 30 free channels and a much larger number of pay-TV channels available to subscribers. Hong Kong's television market should be opened to competitors. Not only would this enrich viewers' choice, but it would underpin the development of the local film industry, which is already the world's third largest, and growing as a major supplier to China, Taiwan and the Chinese diaspora worldwide.

The Foundation also believes that Radio Television Hong Kong should be corporatised and become more independent of the Government.

(5) Air services

Hong Kong is a regional hub for air communications, an important part of its role as an entrepot for trade and gateway to China. It is of critical importance to this role that businessmen, traders tourists and other users of air transport in Hong Kong have access to the best and cheapest services that are available internationally. The Foundation accordingly views the Government's present "one airlines" policy with concern.

A single airline is not able to deliver the variety of services Hong Kong needs at the right price. The recent prolonged strike at the territory's major airline, which caused significant disruption to air service users, calls into question the wisdom of the one airline policy. Neither management nor unions in this dispute showed adequate regard for the interests of the aircraft users.

The Hong Kong Government's reluctance to grant fifth freedom right to foreign carriers is also a matter for concern. If foreign carriers are forced to fly on from Hong Kong empty because they are not permitted to take on passengers or goods in Hong Kong, over time more and more carriers will use other airports in the region, to Hong Kong's detriment. For Hong Kong to fulfil its role as a regional hub for air traffic, fifth freedom rights must be granted to foreign carriers.

The Foundation is also concerned that a single company, associated with the territory's airline, enjoys a monopoly over aircraft maintenance. The market should be opened to other suppliers on a competitive basis for the new airport at Chek Lap Kok.

(6) Bus services

China Motor Bus holds a monopoly over many routes on Hong Kong Island until August 1995 and Kowloon Motor Bus a similar monopoly over routes in Kowloon until August 1997. During l992, 26 routes on Hong Kong Island were opened to outside bidders, with a resultant improvement in service quality. New entrants like Citibus have also provided quality service on certain routes, setting an example that the existing carriers have to some extent been forced to emulate. The improvements that have followed the admission of more competition in the bidding for routes suggest that this policy should be followed through completely, and the existing monopolies not renewed when they expire.

(7) Supermarkets

Two chains, each allied with a major hong, dominate the supermarket sector. Neither company is protected by any statutory franchise, and the two appear to compete with each other, as well as with the other much smaller chains and family stores. However both chains have been slow to introduce new technology, such as point of sale systems, bar code readers and conveyor belt checkouts, that have been available for a decade or more in the developed countries. It appears that both companies demand substantial advance payments from suppliers to stock new lines of goods. And there are complaints from consumers about high prices.

The Foundation awaits with interest the results of the Consumer Council's survey of the supermarket sector.

(8) Legal profession

At present the legal profession is divided into two parts, each with a restricted area of operation. Only barristers are permitted to represent clients in the High Court, but they can do so only on the instruction of solicitors, so that the client has to bear the fees for both. It is also the case that fees for certain kinds of legal work are based on a fixed scale of charges set by the Law Society.

The Foundation is concerned at the high cost of legal services in the territory, and the consequent inaccessibility of justice to all but the very rich or those on legal aid. The Foundation is also aware that recent reforms in Britain and elsewhere have removed barriers to competition within the legal profession. The Foundation therefore welcomes the discussion that has begun within Hong Kong's legal profession on possible merger. A thorough review of practices within the profession would be timely.

(9) Insurance

The Foundation is aware that the Accident Insurance Association recommends a level of premium to its members, which most of them follow. This practice may be anti-competitive, and should be independently reviewed.

(10) Fuel

The Foundation is aware that one company supplies more than half the domestic gas used in the territory. The car fuel market is served by a small number of companies which have on occasion displayed a remarkable degree of coordination in their pricing. The Foundation awaits with interest the results of the Consumer Council's survey of the energy supply sector.

Hong Kong Democratic Foundation
10 March 1994