Regulating natural monopolies in Kazakhstan
Introduction
The Government of Kazakhstan is making a second attempt at privatizing natural monopolies - but will it fall into any of the same traps as before, or into new traps?
Reasons for regulating natural monopolies
Competition protection bars sole firms from excessive monopoly power. Unrivaled, they would charge higher prices and produce less than the efficient amount.
Scale economies justify monopolies in some areas, such as utilities. Having many small firms there would be inefficient, but the government still regulates these natural monopolies.
The Tractebel case
Regulating natural monopolies in Kazakhstan has been no piece of cake. The Tractebel case was particularly pungent. In 1996, privatizing the energy sector led to establishing“Almaty Power Consolidated”, JSC, supplying electricity to Almaty. That year, “Powerfin”, a subsidiary of Belgium-owned utility firm “Tractebel”, acquired it. Tractebel functioned in Kazakhstan for four years, until the state-owned KazTransGas repurchased its Kazakh assets for $100 million. Tax authorities of Belgium and Switzerland suspected that Tractebel paid about $70 million as commission in unlawful money-laundering deals, but Jacques Van Hee, Tractebel spokesman, claimed that the payment was legitimate. He argued that the local authorities refused to increase utilities fees, despite contracts, making business in Kazakhstan unprofitable. Government authorities accused Tractebel of reneging on its investment pledges, exceeding $200 million, reports Valeria Korchagina, of The Moscow Times newspaper.
The depression of the 1990s and regulations made even some natural monopolies unprofitable. Tractebel did not spend adequately on equipment repairs, making blackouts frequent. For 1999, expenditures on repairs were planned at 2.245 billion KZT, but only 238.6 million KZT, or 10.6%, were actually spent, reports Anatoliy Kuzovkin, of Promishlenniye Vedomosti, a business newspaper.
In 2001, the city government of Almaty bought 100% of shares of Almaty Power Consolidated. Yet growing debt of the company to Halyk Bank induced the Government of Kazakhstan to order KazTransGas to repurchase it. Since 2007, the state-owned Samruk-Energo has managed Almaty Power Consolidated. Since February of that year, Almaty Power Consolidated has been responsible for power transmission only, while the company Almaty Electric Stations, which Samruk-Energo also runs, manages power plants. Since 2009, Samruk-Energo has been the owner of Almaty Power Consolidated, renamed “Alatau Zharyk Company” that year.
After the re-nationalization of Almaty Power Consolidated, 31 new electric substations were built. These substations enabled supplying electricity to the Almaty subway, to the buildings of the Winter Asian Games of 2011, and to 780,000 more consumers in Almaty and the Almaty oblast, reports the “Alatau Zharyk Company” website.
State ownership and approaches to regulation
State ownership of natural monopolies can lead to lower prices and higher output than private ownership, but it has several drawbacks. Managers may conduct activities, leading to higher than profit-maximizing costs, such as hiring too many workers or overpaying them. In monopolies, this problem, called X-inefficiency, is particularly pervasive. Since the managers of a state facility report not to profit-motivated shareholders, but to government officials, X-inefficiency there may be even worse. Furthermore, when the state collects taxes to support the monopoly, firms may pass on the burden to customers or employees.
There are several approaches to regulating private monopolies. Socially optimum pricing may lead to losses, if the average total cost exceeds the cost of each additional unit. Hence, the regulator may force the monopoly to set an efficient price, and then subsidize it to keep it profitable. Unfortunately, the amount may be hard to estimate, and taxing to finance it may create inefficiencies. The regulator may also allow charging prices for some groups of customers above others, to enable the additional revenue to cover the costs, but this may be difficult to administer. Alternatively, the government may force the monopoly to set the price equal to the average total cost, allowing it to make a normal profit, yet keeping the price above the efficient price. Even then, since prices must be set well above costs, regulated monopolists have little incentive to minimize average total costs. X-inefficiency may still be a problem.
The second attempt
The state owned most natural monopolies in Kazakhstan during the 2000s. Since 2011, when the Government announced its intention to partially or fully privatize state assets, many belonging to the “Samruk-Kazyna” National Welfare Fund, it began to prepare 10 natural monopolies, including Samruk-Energo, for the “people’s IPO”, a partial share issue privatization, involving selling 10% of their shares to pension funds (now the Unified Accumulated Pension Fund) and common citizens of Kazakhstan. Currently, KEGOC (Kazakhstan Electricity Grid Operating Company) and KazTransOil, the national oil transportation company, have shares outstanding under this program, reports the People’s IPO website.
Regulating natural monopolies became a two-edged sword. Power is a relatively safe investment, so the “people’s IPO” of Samruk-Energo could help develop the stock market. However, regulating fees would now not only help the firm’s customers, but also hurt its stockholders. On the positive side, the profit-motivated shareholders could improve corporate governance.
Nevertheless, unfavorable macroeconomic conditions and declining popularity of the stock market led to a new privatization program, in which not only individuals, but also local and foreign legal entities, may participate. Samruk-Energo as a whole is no longer considered for privatization, but some regional assets may be privatized. Currently, there are plans to privatize nine enterprises of Samruk-Energo, reports its website.
Conclusion
The government of Kazakhstan had failed in the first utility privatization attempt. Yet Kazakhstan is attempting to improve efficiency and corporate governance of natural monopolies through privatization again, with many traps to avoid.
References
Alatau Zharyk Company. Brief information. https://longreads.samruk-energy.kz/ao-alatau-zhary-kompaniyasy. 2016.
Korchagina, V. Tractebel to pull out of Kazakhstan. http://www.themoscowtimes.com/sitemap/paid/2000/5/article/tractebel-to-pull-out-of-kazakhstan/263517.html. 2000.
Kuzovkin, A. A pilot project of breaking up energy supply of Russian regions: the experience of varangians in Kazakhstan. Promishlenniye Vedomosti. http://www.promved.ru/mart2_2000_07.shtml?podborka=7. 2000.
People’s IPO. On the People’s IPO Program. http://narodnoe-ipo.kz/narodnoe_ipo/o-programme-narodnoe-ipo/. 2015.
Samruk-Energo. Privatization. https://www.samruk-energy.kz/ru/privatise. 2016.
