Proceedings of the Subcommittee on
Communications
Issue 5 - Evidence
OTTAWA, Wednesday, May 27, 1998
The Subcommittee on Communications of the Standing Senate Committee on Transport and Communications met this day at 3:40 p.m. to study Canada's international position in communications generally, including a review of the economic, social and cultural importance of communications for Canada.
Senator Marie-P. Poulin (Chairman) in the Chair.
[English]
The Chairman: We have several witnesses today. We would like to welcome, from the Canadian Motion Picture Distributors Association, the Honourable Doug Frith and Ms Susan Peacock.
As you know, we have been looking at this new world of communications and telecommunications, in particular at how Canada can remain at the leading edge, not only in terms of infrastructure but also in terms of the stories we tell about Canada here and abroad. We are looking forward to hearing your recommendations on what public policy would be most appropriate to ensure that Canada stays at the leading edge.
Mr. Doug Frith, President, Canadian Motion Picture Distributors Association: It is a pleasure for me to be back. This is my second opportunity to be in front of a Senate committee. I am used to the other house, and this is more fun.
I will begin by giving an overview of who we represent, because I often find that when we use the name CMPDA, it causes a great deal of confusion with the public. Essentially, the Motion Picture Association of Canada represents solely the interests of the seven Hollywood studios here in Canada, on everything from CRTC issues to public tax policy. We even have our own anti-piracy effort, where we investigate cable theft. We have four ex-RCMP officers who work in that area.
Of interest is that, in terms of exports from the standpoint of the United States, the entertainment industry has now surpassed aerospace as the number one U.S. export. These are statistics that have been used in speeches by Kim Campbell, our Consul General in Los Angeles. I have no reason to doubt them.
I know that the importance of the entertainment industry has changed tremendously in the last decade. They were all along expecting entertainment to surpass Boeing and hit the aerospace industry really in the last 12 to 18 months.
The importance in terms of the seven studios' involvement here in Canada, so that you know, is that we are presently doing approximately $130 to $140 million of production every month in this country. We employ somewhere in the neighbourhood of 30,000 to 40,000 Canadians. It has developed a tremendous talent pool in the last decade alone. I will get into those remarks, Madam Chairman, later on in the speech.
I know that your committee's interests are rather wide-ranging. We thought we would focus only the commerce and cultural perspective and hope that we can get into some questions and answers. We will be leaving behind a document for you. I do not intend to read the thirteen pages, but I will basically touch on the following areas: commerce and culture, broadcast policy, funding of cultural products, the regulatory environment, and then, of course, our views on where the exports are heading.
Susan Peacock, who accompanies me today, will lead off with the issue of broadcast policy and funding of cultural products.
Ms Susan Peacock, Vice-President, Canadian Motion Pictures Distributors Association: Broadcasting policy currently is based on a 25-year-old reality and, to a degree, a current reality of spectrum scarcity and high costs of both producing and distributing content. Canadians were concerned that shelf space be reserved for, and filled with, Canadian information and entertainment, so a limited number of companies were granted licences to broadcast in return for adherence to certain regulations, including fulfilment of Canadian-content quotas.
Cable operators were granted monopolistic market access in return for adherence to regulations such as priority carriage, linkage and tiering requirements, and most recently, contributions to subsidization of the cost of producing content.
Cable had to reserve shelf space for Canadian broadcasters and they, in turn, had to reserve shelf space to support Canadian productions, but not to the exclusion of others. Always a recurring theme in Canadian broadcasting policy is maintenance of a certain ratio. Revenues from non-Canadian programs carried by broadcasters and non-Canadian signals carried by cable were required to subsidize the regulatory obligations. In addition, tax incentives and publicly funded subsidies were implemented to assist with the cost of content production.
There are some indications that these measures have worked. Over 70 per cent of Canadians' television viewing time is tuned to Canadian signals and services. Seventy-four per cent of Canadian households have cable, but 85 per cent have an unregulated VCR, and that VCR is getting an ever-increasing share of viewing time. The most recent figure I have seen is at 9 per cent.
Television is also competing for viewers' time with computer games and Internet-browsing. In 1997, 40 per cent of Canadian households had computers; 13 per cent were using the Internet. In addition, there are many people with Internet access at work and at school.
The Canadian television production distribution industries have been very successful. A number of companies are integrated, publicly traded, and very profitable. This success is often attributed to Canadian broadcasting policy and subsidy, but the Canadian market is very small and many Canadian productions earn most of their revenues from exports. Doug is going to talk more about exports in a minute.
The costs of subsidy are obvious, but there are costs of regulation, too. Canadian cable subscribers are irritated by the high costs and limited choices that result from regulation, and many have chosen the grey market or outright signal theft. When laws and regulations purport to restrict and control behaviour but are unenforceable, there are social costs, which include a diminished level of compliance and resulting cynicism about the system of justice.
Ownership restrictions on Canadian productions, Canadian content producers, distributors, broadcasters and other CRTC licensees limit the pool of available capital. They cause players to be less efficient, less competitive, and they increase the apparent need for subsidy. The result has been called a culture of dependency on subsidy and protection. Furthermore, the net economic benefits of broadcasting policies, if those are accepted, make cultural benefits questionable. Broadcast quotas have no doubt increased licence fees paid for certified Canadian content beyond what the market would have generated, and so supply has been increased.
Perhaps a more important way to assess the success of policies is to look at demand. Demand is sometimes looked at from the point of view of the demand by broadcasters, but we suggest that a better measure of demand is to look at the amount of consumption.
Nearly 39 per cent of all television viewing in Canada is viewing to Canadian content, but two-thirds of that is news and sports, which would arguably be supplied and consumed without quotas. Less than 6 per cent of all television viewing time is to Canadian comedy and drama.
By comparison, Canadian feature films, which are often said to be in desperate need of more regulatory assistance and subsidy, earn about 10 per cent of theatrical distribution revenues and 20 per cent of home video distribution revenues in two markets that are free of quotas and largely unregulated.
Whatever the basis for, or evaluation of, regulations and assistance programs historically, many of the concerns that gave rise to them are no longer true and others will be alleviated by the new technology, including availability of shelf space, cost of production, cost of distribution. It is time to examine both the rhetoric and the policy on which it is based.
Professor Globerman has pointed out that, as a result of new technology, if any significant number of Canadian viewers want access to programming of uniquely Canadian interest, a scarcity of transition capacity will not be a barrier, and if there is a limited demand for such programming, imposing content requirements will not contribute to its consumption.
Even more important than unlimited shelf space, new technology will dramatically lower the incremental costs of delivering content, and any increase in use will contribute to profits. Programmers will be able to offer as little or as much as they want. They will be able to sell it à la carte. Pay-per-view is an early example of this, like novels or like movies, or by subscription to packages as cable is sold, and as magazines and newspapers are sold now.
Product may be released according to a schedule with this new technology, but once released, the consumer will have a choice about when to watch it. They will be able to watch it at their convenience. The price may depend on the amount of advertising that consumers are willing to consume.
In addition, the costs of producing attractive, imaginative content are already dropping sharply. An article in The Economist says that cheap digital production and editing tools may spark in video the sort of democratizing changes seen in desktop publishing. Reaching back even farther into history for an analogy or an example of democratizing technology, before the invention of the printing press, the only best selling author was God.
Mr. Frith: Madam Chairman, one of the questions your interim report addressed was this question of increased funding and where can we find it for Canadian cultural product, whether that is direct public subsidy or some other fiscal measure.
By and new technologies from the private sector are driving down the cost of production. They are driving down the cost of distribution and, therefore, there is more market access. By and large, the private sector does not require any public subsidy on a lot of the cultural product.
One of the issues that, as a government, you have to deal with in terms of public policy is that when the technologies create a situation where you have no control over the market access, then any regulatory regime that is in place that controls barriers to that is really going to affect where private funding can go. At the end of the day, we are all living in a day and age of government restraint. Everybody is focused on debt and deficits. The more creative ideas are going to have to look to the private sector for joint public- private-sector ventures. That is our view, that these new technologies tend to drive down the cost of production and distribution. I will come to that in a moment.
One of the other concerns that you flagged in your interim report was that, with these new technologies, there is some fear -- and it is a legitimate one, I think, to some extent -- not only by Canadians but other nations of the world that this great monolithic cultural product coming out of Hollywood is now going to be the standard for the world. That is a very narrow view of what technologies are going to do to cultural product in the world. In fact, if you get those costs of productions down and your distribution costs go down, you can create tremendously narrow market niches for your product. It is not beyond the imagination, with access on the Internet, that if somebody wants to start up a society for Tibetan poets or poems you could find enough people on the Internet such that you may have a commercially viable site.
The point I am coming to is that I think that the technologies will drive different products. With the lower production costs and the lower distribution costs, there will be a wholly changed world. For example, you will be able to make films at home.
Some of that technology will have international appeal. There are a number of areas in which those technologies can create more diversity in cultural product world-wide. There should not be a fear of technology driving sort of a standardized "culture". In fact, over time, there will be tremendously more variety and diversity in your ability to choose cultural product. That is just a thought that we have had in terms of witnessing what is happening in the entertainment world on these areas using the new technologies.
One area that I think really requires a lot of debate in this country, and perhaps not only at the public level but I think amongst even the people taking access to it, evolves around this whole issue of Canadian content and Canadian cultural product. I find it odd, having been in public life and now having joined this entertainment industry just 18 or 20 months ago, that we tend to define Canadian content not on the basis of cultural product but on the basis of nationality of the owner or the nationality of the producer/director. For example, a foreign producer could come into Canada and make a 13-week hourly TV series on Sir John A. Macdonald and that would not qualify as Canadian content, but a Canadian director can go and study the milk distribution system in Bosnia or Albania and that would be deemed Canadian content. There needs to be a debate on this issue. I know that Madame Bertrand at the CRTC wants to engage Canadians in that debate.
It seems to me, to a large degree, that we have lost sight of what it is we are trying to achieve in public policy when we are looking at Canadian cultural product. The nationality of the owner or the director and using these point systems may or may not be the way to proceed. Rather, we should focus on what constitutes Canadian cultural product.
Let me give you an example. Last year at the Academy Awards, the movie The English Patient, which won a lot of awards and had international appeal -- remember, the book was written by a Canadian -- made the front page of Maclean's magazine, which asked how Canadians ever let this Canadian story go. This year, a year later, another Canadian has done extremely well as a filmmaker, Atom Egoyan, with The Sweet Hereafter, but nobody mentioned the fact that the book was written by an American. There is this mixture of nationalities. As Canadians, we have a lot to be proud of in the creative world.
Not everyone in the creative field in Canada may be working -- and some can say, well, that is because of structural problems in the entertainment industry. My view is that, frankly, if there was such a magic to the making of a successful movie product, why is it that seven out of every ten films lose money? A movie's start must be with creative scriptwriters. Then you need risk capital. Even then, and after you have been in the business a long, long time, it is not until the product collides with the audience in the darkness of a theatre that you know whether the film is a success or a failure.
What I am finding now in Canada, even though we are having this debate on the vertical integration of foreign studios, is that Canadians also have a great success story to point to, whether it is Alliance or Atlantis. They are now building up to a critical mass size such that they can now compete in the world marketplace. I do not think it is all doom and gloom. There are a number of publicly traded Canadian companies who now have more of their money coming in off exports to the world-wide markets than they do from the domestic market. Whether you take Cinar films or Nelvana, where we have created one huge niche market as Canadians for product for export in the area of children's programming and in animation series, we have a world-class reputation.
This whole issue of barriers to export and trade is linked. We have a vested interest in Canada to remove import barriers because that will free up export markets for our Canadian controlled companies. When you look at Nelvana, 92 per cent of its revenue comes from export. Canadian television production and programming is now the second largest exported programming in the world.
Just as we had in the past when we were relying on manufacturing industries and on natural resource industries, we now have a vested interest in eliminating barriers to trade in the cultural area. At the same time, we must ensure that we protect our long-term public goals on it, mainly because we now have so much tied to our export market. The more that we put up interior trade barriers, the more you are going to have retaliation by other partners. The United States is the number one importer of programming; two-thirds of that is coming to Canada. The committee might want to focus on this two-way street.
What constitutes content really needs to be the topic of debate. Even when we set up the Telefilm pilot program for multimedia production and publishing assistance for the development of multi-media work, CD-ROMs, no requirement for Canadian content is required in those products. When you look at the definition of what is Canadian for subsidy, tax, or broadcasting purposes, in our view, too much weight is given to Canadian ownership of the production company and not enough to Canadian creative material. We should re-think that.
We have had tremendous success in Canada in the last five to seven years. I am amazed by the size of the talent pool that has been created in the last seven years. It is largely centred in Vancouver, Toronto, and Montreal. Seven years ago, a lot of the behind-the-camera crews had to be brought in by special arrangement; today, that is no longer the case. I mentioned earlier that today $130 million a month is being spent on film production in Canada. The breadth and the depth of the talent pool is incredible. With the exception perhaps of the Hollywood stars that drive the commercial activity of the film, we have everything we need in this country.
That infrastructure now has been built up in Vancouver, in part because of the lower Canadian dollar, but also thanks to the Government of Canada. Last year, we negotiated the tax credit, which is a significant incentive for the Hollywood studios to locate production in this country. Over time, there has been a build-up of all factors: the same time zones, the same language to some extent, with the exception of Quebec. Vancouver has the same time zone as Los Angeles. Frankly, very good union-company relationships are driving all of those areas.
Even unions in California are getting worried about the loss of production to what is called "Hollywood North" because they know that once you have this talent pool that has been created and trained, it becomes competitive; it makes business relationships world-wide.
I leave you with that. Susan is going to talk about the problems that new technologies can create for you.
Ms Peacock: Those of us who surf the Web would say that we are adrift in a sea of links. These same benefits of new technology -- cheaper production, easier distribution, and so on -- are available to everybody throughout the world. The immediate reaction of a number of people has been that that proves that we must have regulation and that we must have subsidy.
One thing they would have us do with this subsidy and this regulation is create search engines, navigation centres that would put Canadian material front and centre when you turn on your computer. Nevertheless, while we sit around wondering about it, private industry is doing it already voluntarily, without subsidy, without requirement.
If you were to go on to your computer and, under the Canadian option, search "the Great One" on AltaVista, the first choice it will give you is a Wayne Gretzky Web site. If you use the U.S. equivalent, it will take you to a Web page about NBA star Charles Barkley. Some things are being done anyway because there is a demand for it, because there is an appetite for it, because it makes commercial sense. Often, when legislation is insufficient or funding is insufficient, nevertheless, industry can be very creative and very quick to come up with solutions by itself.
One of the issues we can see concern about in your interim report is the issue of regulation of the access providers. There is always a temptation, especially with people like me who are not so informed about the technology itself, to look to analogies for something else, in hopes of understanding it. Traditionally, the means of communication were divided into three spheres: publishers, largely unregulated, big content owners; broadcasters, content very regulated; and common carriers. Common carriers would be the telephone system and postal system. That is sometimes looked at as a model for regulation of new media delivery systems.
The Internet as we know it is primitive, and it is going to have to be rebuilt. It is going to be incredibly expensive. If the owners of that infrastructure, the funders of that infrastructure, are prohibited from owning content or restricting access, there will be very little incentive. Traditionally, with telecommunications systems and postal services, you had to either grant national monopolies on very favourable terms or the state itself had to take on that expense. The Economist says that everybody wants to be a publisher but nobody wants to play post office. There is a suggestive hybrid in the postman-publisher model which would encourage companies to make the investment in the infrastructure, not restrict them as to ownership of content, but regulate them and require them to give access to their competitors at non-discriminatory prices. That is a possibility that is being looked at in Europe. It is going to have to be looked at on an international basis since the infrastructure will be international in its reach.
The lines between broadcasters and publishers are blurring. The Globe and Mail is unregulated insofar as its content is concerned. When The Globe and Mail goes on the Internet, you get text and static images. There is no obvious reason why it should now be regulated because it is being electronically delivered. What if the text is being read by a voice and the pictures start to move? Is that a reason to start regulating it? If you do not regulate it, what about CTV's news service? Why should you regulate it? Are they not competing with each other? Are they not offering a similar product to the same consumers?
There was an old bargain with the regulated industry that industry would get the benefits of protection from competition, sometimes rate protection. In return, they would comply with certain obligations. But when the regulator cannot deliver monopolistic access anymore because the competitor is unregulatable, then the regulated players become less willing and less able to deliver their part of the bargain. There is some indication that the CRTC is moving gradually toward de-regulation, and gradually is probably the right rate at the moment, but there will be a necessity to be prepared to shift gears. Otherwise, content that would be found, players that would be found in the regulated system, will have an incentive to move to the unregulated technology.
Mr. Frith: I want to focus my last remarks, Madam Chairman, on two areas. There is much more in our brief, which we will leave with the committee. The first area concerns this issue of trade agreements. We do not represent Polygram. Most of you are aware that Polygram, through the European Union, presently has a complaint. Whether or not they are going to form a panel, I have no idea. Whether or not Polygram will be bought by a Canadian and will remain Canadian, or will be purchased again by someone else, I have no idea. I know that public policy debate has been stirred up in this country in the past when our international trade minister has suggested that culture ought to be on the negotiating table -- and others fear that idea.
I would suggest that we are probably better off in terms of public policy to put the issue of culture on trade negotiations, because they are going to be there at the table anyway. Culture is at every diplomatic person's table. Sometimes the meal looks less appetizing on a bilateral basis than on a multilateral basis, but to end up with these world trade disputes determining cultural policy is very dangerous. It is very difficult to negotiate public policy at these kind of fora. My view would be we should go the opposite way and put it on the table so that we have no difficulties. The issue is not going away. We had Sports Illustrated; we had the Polygram and Much Music issues. My view is that it is clearly preferable to negotiate it rather than leave it to the whims and feelings of bureaucrats, where you never know how it is going to end up.
On the last point of this whole area of regulatory regime, I think your difficulty now is that the technologies are outpacing the ability of regulatory framework to police them. Let me use as an example probably one of the biggest failures in public policy in Canada, and that has been our satellite direct-to-home television. For whatever reasons, the CRTC, in its wisdom, attempted to regulate it. Certain conditions were placed on product that was licensed two and-a-half years ago. They are still not launched. We are still in an uncertain regulatory regime. There is an appeal to cabinet with respect to the ability of the two. Out of the five licensees, only two are left in the marketplace today. They are still uncertain as to what product they are going to have to offer to Canadians on the direct-to-home, largely because they attempted to regulate through conditions in the marketplace, the result of which was the inability of these two companies for the moment to get product on movies, on pay-per-view, direct-to-home.
There is only a small Canadian market for satellite direct-to-home. We now have the situation where roughly half of that market has been taken up by Canadians who have false addresses south of the border, the grey market dishes. We really have to rethink what the regulations can do, because when you have borderless technologies, and if you do not get your regulatory framework right the first time, people walk with their feet. From my perspective as a Canadian, even though I represent American interests -- and I have said this in front of the CRTC, in terms of public policy -- you want to ensure that the Canadians who get up there stay alive in the marketplace because they are going to be forced, in a very short period of time, to compete in that grey market. They have to get those customers back. Do not tie their hands with regulations that prevent them from repatriating the marketplace.
That is an example of regulatory regimes that no longer reflect the marketplace or the technologies that are driving them. We are so advanced in terms of telecommunications in this country that it is imperative for us to maintain the leading edge, not tie their hands in the marketplace with unnecessary chains.
Ms Peacock: I have one thing to add on DTH. There has been a number of prosecutions under the Criminal Code of the Radio Communications Act, some dealing with the grey market and some dealing with the so-called black market, which is outright signal theft. The twelve of us who read these decisions are embarrassed because the result appears to be that it is legal in Canada to steal signals. What is illegal is to pay for them. It may be that the law needs to be clarified there.
Another difficulty that arises out of new technology is that these new ways to produce and distribute also create wonderful new ways to infringe on people's intellectual property rights. Many years ago, in 1977, when the government did a study on copyright revision, one of the authors referred to VCRs as home infringement kits. Well, they are not just home infringement kits. With the new machinery, new equipment that people are going to have in their homes, when movies are available on a digital video disc, they will be able to make an infinite number of perfect copies. These are not grainy, crummy, 12th-generation VCR copies, but perfect copies. Copyright protection has to be there and the enforcement, the support, by the RCMP or the municipal police for these sorts of offences has to be there as well.
Right now we have a situation where the copyright board is in the midst of considering a tariff for the use of music on the Internet. Copyright law is always domestic law. That process is going to raise a number of very complicated questions, such as whether Canadian law applies when Internet communication originates in Canada. Does it apply when it is received in Canada, or must it be both? If it is one or the other, there are tremendous enforcement difficulties. If you have to have both, then it will almost never apply.
Are our service providers, the so-called intermediaries, communicating to the public? Are they authorizing a communication to the public, or are they just common carriers with no copyright liability at all? The Copyright Act is not very clear on this. It will not be until Phase 3, which is the next phase but is not yet started. Meanwhile, the Copyright Board will have to make decisions, related not only to music, but also all kinds of works on the Internet. It is almost certainly going to be judicially reviewed, and owners and users are in the unfortunate situation of requiring that a law be applied to circumstances they never foresaw.
One of the things we would really like to see is Phase 3 of copyright revision moved ahead. We would like to see the Copyright Act amended so that, when technology helps copyright owners by being able to build some electronic fences around their works, the act would provide that, if you tamper with those electronic protective mechanisms, that itself is infringement.
Mr. Frith: That was one of the issues that you raised in the interim report. In our view, if Canada were to become the leader in copyright protection, it would give solace and comfort to those who want to create. The creators worry. They do not want to go to -- no offence, but let us say the Third World, because they are not going to have the same degree of protection against their own creative intellectual property rights. Those countries that lead in the area of copyright protection will attract the capital and the investment to locate here. If Canada is the leader in it, de facto the investment will come in.
Ms Peacock: International agreements in that area will be very important because countries like Canada that have good protection will attract legitimate "good guy" interests, both owners and users. Copyright havens, like tax havens that have very lax or no protection at all, will attract "bad guy" infringers. How are you going to provide the remedies on an international basis without international agreement?
The Chairman: Honourable Frith, Ms Peacock, thank you very much for a very interesting presentation. You are giving us food for thought, which is why we hoped you would be able to appear before this committee. You referred to a number of concerns that were touched on in our preliminary report.
Senator Bacon, who has long-standing experience, has a few questions for you.
Senator Bacon: I would not say that, but I have a few questions for you. Some countries have adopted strategies to stimulate the participation of some TV channels in the financing of local movies. Channel 4 in Great Britain and Canal Plus in France are good examples. Have the markets of the American studios in those countries been hurt in any way by these policies?
Mr. Frith: No. In fact, they have been enhanced, especially in the U.K. In the U.K., their policy has resulted in a huge increase in investment from the Hollywood studios into Britain. It now leads the European community in terms of investment dollars. There is a correlation. In countries such as Germany and France where you had the opposite public policy environment in terms of the fiscal stimulus, there has been a decrease in the amount of investment. They, in fact, have attracted more capital.
I am not suggesting that we abandon all Canadian content. As a Canadian, I can understand why it is worthwhile funding and protecting. The movie The Full Monty that everybody points to was funded by 20th Century Fox. This issue of using barriers to limit your import is a serious issue that should be addressed.
All the more power to Alliance. If Alliance can do this in this country but without public subsidy, go to it. It is doing exactly what Hollywood studies are doing world-wide.
What we should be looking to is a kind of change in the stimulus package, senator, to attract foreign investment. If we want Canadian stories to be told to Canadians and others, then allow those that have a good a track record to come in. Why would we fear Polygram? Polygram is a Dutch company, for the moment. It has a tremendous track record. It went into the U.K. and developed Trainspotting, and Four Weddings and a Funeral. It used their integration to put out a British story world-wide.
To answer your question, it has actually stimulated the investment.
Senator Bacon: Would you see any problem if Canada started to try this avenue to finance our local film industry?
Mr. Frith: I do not see any problem with that.
I will ask my colleague to comment, as well.
Ms Peacock: No. I think that the nationality of the money should not be as important as the content of the production, if cultural policy is the goal. With respect to the broadcaster investments, another trend is that, as time goes by, increasingly productions are made by partners, joint ventures or partnerships, co-productions. Broadcasters, like others, are interested in owning content, and the way you own content is to finance it in the first place, perhaps with a partner to share the risk and share the rewards.
Senator Bacon: When we look at the numbers and we see that the Hollywood studios control more than 85 per cent of the Canadian market, we are led to believe that the system is not really working against your interests. Last month these same studios asked Minister Copps to remove the few protections left for Canadian distributors. Do you not believe that Canada should help at least a few Canadians distributors to ensure the survival of our film industry?
Mr. Frith: I am going to let Susan reply to that question. There is a lot of technical data in the two papers we have prepared. All of our data has been substantiated in footnotes, which may not be true of others who have submitted briefs. There are many myths out there about this 85 per cent. Some say 4 per cent of screens -- it could be 2 per cent; it could be 9 per cent. I do not know. I do not know anybody in any of the movie theatres who does that kind of data analysis. I will return to that in a moment.
Ms Peacock: I believe this 85 per cent figure stems from the fact that, until a few years ago, non-Canadian distributors received 85 per cent of theatrical box office, not the Canadian market in total. That is down. Canadian-controlled distributors are now receiving close to 20 per cent of theatrical box office, but of Canadian distribution revenue all together, Canadian-controlled companies, excluding Universal, are receiving close to 60 per cent. Those numbers are published by Statistics Canada. People who have an interest in obtaining subsidy do not like to talk about it.
Mr. Frith: Most of these are now publicly traded companies, senator. They have almost all doubled their market value in the last year. They are all healthy. If you were to listen to some of the myths, you would not think that we had a healthy film industry in this country. There is the restructuring that has taken place with Paragon, and now the purchase of the Cineplex Odeon assets by Alliance. Alliance is a great success story, and I wish Robert Lantos nothing but further success. The best thing for us is to have everything with a vested interest on long-term common goals.
Ms Peacock: One final point. The connection between the health of Canadian distributors and the creation of Canadian cultural product is somewhat tenuous. Canadian-controlled distributors make most of their money and spend most of their money on acquiring foreign productions. They spend more money than anybody else on producing Canadian productions, but partly because everybody else in the world is prohibited from doing it. They are prohibited from producing Canadian content.
It is not Canadian content by definition until it is produced by a Canadian. For many productions that have access to public funding, there are additional restrictions on who may own distribution rights, who may own copyright, and so on. Non-Canadian companies cannot produce anything that is certified as Canadian production. They certainly do not have access to subsidy -- and we are not asking for that, but we are saying there is an obvious reason that most Canadian content is produced by Canadian producers, and it is not necessarily because they are altruistic.
Senator Johnson: Thank you for your presentation. I look forward to reading the details of it.
You, obviously, read our report. I was struck by several things you said. Of course, we have been told continuously, and I believe it, too, that distribution is really one of the keys to the development of our Canadian film industry. You represent the giants in the industry. I come from Manitoba, where they are developing an industry and are working hand-in-hand with American filmmakers and producers from everywhere. Actually, as you said, it is getting to be a very small world.
The poor record of Hollywood studios in financing anything to do with indigenous Canadian movies is still an issue. You briefly addressed this, but could you tell me more about why it is so? Do you see any changes in this regard?
Mr. Frith: My view, senator, is that we are finally coming around to it. I think Ms Bertrand's decision to air this decision about Canadian content is a healthy beginning to have a dialogue.
To a large extent, I think we have to come back to this issue of cultural content and Canadian content. If we can get that debate out of the way, there can be investment by the Hollywood studios if you take away the barrier because there is a disincentive there where you are prohibited from doing it. Likewise, I think that this myth that has been created, that our distribution system in this country is weak, is belied in the marketplace. It is very healthy; it can compete.
As an example, on any given day, go out to your movie theatres here in Ottawa and take a look at Alliance and what they are distributing. It is not by government fiat. If Disney wanted to distribute its own films in this country, it could do so through its subsidiary. Miramax uses Alliance because it is good business practice. New Line, which is Warner Bros., also uses Alliance when, in fact, they could have used the Warner Bros. distribution system. We have assisted not because of government regulation but because it makes good business for those studios to do business with a Canadian company, Alliance. They are not forced to by the government. On any given day, Alliance Group will have over 50 per cent of the films in movie theatres here.
Senator Johnson: That is the way you are defining cultural content as opposed to Canadian content. It is important to clarify this concept for our study. You also spoke of nationality defining content. Everybody's head is always around Canadian content. It is important to elaborate on that concept in our work, Madam Chairman, because we are getting into a new area. These are new definitions.
Mr. Frith: I think it is long needed. If a foreign studio came in here and did a 13-hour series on Sir John A. Macdonald, it would be deemed not to be Canadian content. Conversely, if we went to India and did a special on cricket playing, or whatever, it would be considered Canadian content.
Senator Johnson: What you have said today hits me right between the eyes. I know many filmmakers out west, and the same thing is evolving, but people are not thinking that way when they come before us and talk about Canadian content.
Ms Peacock: I would like to add something in response to your question, senator. You refer to the poor record of the American studios in financing Canadian productions. I think it is related to this Canadian content definition. Different things are being counted.
When a film is produced or a television series is produced, the very first thing -- and I know this because I was in this business for six years -- the very first thing a producer does in Canada is sits down and says, "I think I can get this much from Telefilm, I think I can get this much from the cable fund, and I can get this much from my broadcast licence, or whatever, in Canada. Now, how much is left over? Thirty per cent of my budget is not financed", or 40 or 50, whatever it is. Then he goes into the export market and raises whatever is required.
You hear people say they are only able to fund 40 per cent of their budget from the export market, but it is not that they are only able to; it is that they only need to. Nobody likes to sell off foreign rights that they do not have to sell off in advance in order to fund the production. They would rather keep those rights, sell them later, and it is all gravy.
Furthermore, there is a difficulty that Statistics Canada is trying to correct. When they report on the contribution of foreign companies to production, they survey companies doing business in Canada. They would survey Paramount Canada. Paramount Canada is in the distribution business. It does not buy any foreign rights to anything. It has Canadian rights and it licenses Canadian rights in Canada. So when Stats Can does their survey, they survey Alliance, and Alliance will say that it bought world-wide rights to such and such a Canadian production, that it put in 80 per cent of the budget. What Alliance then does, say, is turn around and sell to Paramount U.S., for example, for 80 per cent of the budget. Paramount pays Alliance; Stats Can does not count that. Alliance pays the producer; Stats Can does count that. They count it as Alliance's contribution.
I am not critical of the way Stats Can did their survey, but they were surveying a very specific area -- money paid in Canada by companies doing business in Canada. They were not catching the contributions that were being made by the studios.
Senator Johnson: I see that. An average Hollywood film costs about $70 million; correct?
Ms Peacock: Sixty million dollars to produce and $30 million to release.
Senator Johnson: How can anyone in the world compete with that? I realize that the Titanics of this world are not going to be made anywhere but in Hollywood. The other stories in the world are obviously going to be told in smaller ways, and there are co-productions going on. You are absolutely right, because I have seen it myself, that people are getting together in how they finance now. They go the Canadian route with Telefilm. As you say, there are contributions from other sources.
We all know what the Hollywood film costs. You said that the new technologies would drive these costs down more for us, in a country like ours. What is your totally honest view on how our industry is doing and will do with the various factors that we have just been discussing? You have said that you think it is a success, but you are the only ones who are saying that. Other people have said that it is becoming successful to a certain extent but that it is not really a success.
Mr. Frith: Senator, take a look at Western Canada. In just the last four months, Lions Gate is involved in a $500 million co-production deal with Paramount studios. Why? Because they are good at what they are doing.
Senator Johnson: Part of your role is to facilitate, is it not? You work together with these people to put deals together.
Mr. Frith: Our job is to facilitate a broader public policy framework in which this becomes a very attractive place to invest. Trust me, when we went through this a year ago, just around election time, there was not a lot of sympathy for the industry. However, in July, the Minister of Finance decided in to give a 90-day extension to the tax deferral scheme which was driving the film business in this country. I agreed with that decision because it means less tax dollars lost to the taxpayer. If you are going to support this industry, then you must get the best bang for your buck. That is what we have done.
Whether it is Alliance or Atlantic or Nelvana or Cinar or Lions Gate, these companies are all doing extremely well. They are doing well because they have a product, and they have resources and a talent pool. The studios south of the border are becoming concerned about loss of production to what they call Hollywood North, and union pressure is being put on the Governor of California to do something about it.
It is time to enter into this debate in Canada. Many Canadians are hiding behind the Canadian flag, be it Rogers or whomever. Some companies have become very rich using the Canadian flag as a shield. If we are going to subsidize anything, let us not subsidize the ownership; let us subsidize the product.
Senator Johnson: Yes, I agree with you. We want our study to unearth the new way in which things are being done and perhaps put to rest some of the myths that persist, which are often presented to us and which I hear all the time as well when I work with people in this industry who ask me for advice.
I could talk about this all day, but I am sure others have questions. If there is anything else you would like to add, to help us in our study, I would really appreciate it.
Ms Peacock: I have a small comment to make about subsidy. A few weeks ago, we saw the unedifying spectacle of producers lining up, camping out, to get to the first-come first-served subsidy money.
Mr. Frith: They were driving Mercedes, and they were getting high school students to get jump out of the car and stand in line.
Ms Peacock: They are paid $5 a hour to stand in line, which is even less edifying.
Senator Johnson: They threw $30 million in from next year's budget to solve this situation. I had about 25 calls from the west on that.
Ms Peacock: There are two things that are not required. As you will see in our written comments, our opinion is that subsidy would go farther if it were devoted exclusively to product which was culturally relevant and had economic need. Neither of those things is a criterion now.
Mr. Frith: I am not sure where your study will take you, but I would be comfortable to suggest that, if you are in Washington, we could arrange briefings. Our people in Washington operate world-wide on copyright issues. That is the sole raison d'être of Hollywood. They live and die by copyright. It sounds glamorous, all of stars, but all we do is get involved with John Travolta's attorneys or tax accountants because the system is driven by all of these international agreements.
I think we could brief you on what is happening on international treaty bases, because they spend a lot of time and resources in Geneva, on ISAN groups, on a lot of these technology areas. They have some very good people, as we do here in Canada. It would give you a different perspective.
Senator Johnson: It would be helpful for our committee.
The Chairman:We would appreciate it. We came up with a preliminary report, as you know, last spring. We are hoping to come out with our report on our main thrust, the four issues that we have identified, in early fall. We are already beginning to identify additional areas on which we have to narrow the focus, so that we can spend even more time on the third step.
Senator Johnson: That bill last year was just unbelievable.
Mr. Frith: Bill C-32.
Senator Johnson: Do you have anything else you want to add, to enlighten us on, in terms of the copyright affecting you? It is not really relevant, is it, anymore?
Mr. Frith: Basically, we were in favour of the passage of the bill. I never would have suggested that the Senate at this stage turn it down.
Senator Johnson: It is going to be reviewed next year; instead of five years, it is two now.
Mr. Frith: It really had had not been thought through at the bureaucratic level. Frankly, they did not have a clue of what we were talking about. We did not want to publicize it in case we gave lawyers some great ideas in this country.
Senator Johnson: We thought that because of the intellectual property rights, you are probably always dealing with the violation in Hollywood, especially with DVD technology.
Ms Peacock: It has caused some interesting problems for our member companies.
Mr. Frith: On this issue of piracy signal theft, we estimate that 40 per cent of the North American market is stolen signal theft. Add up the money.
The Chairman:Thank you. As Senator Johnson said, we could spend all day discussing this very interesting subject. Thank you for sharing your experience and your perspective with us. Thank you also for the written material. If we have any additional questions, may we correspond with you?
Mr. Frith: Yes. If we can assist you in your travel, be that L.A. or Washington, we are more than happy to do so.
The Chairman:Colleagues, we are honoured to have with us today Joel Bell, who is president of MaxLink.
Mr. Bell, we are truly honoured that you were able to make yourself available to meet with us. I trust you have had the opportunity to read our preliminary, which was published and tabled last spring.
Mr. Joel Bell, President, MaxLink Communications Inc.: Yes, I did.
The Chairman: As you know, we highlighted a few issues that are of concern to us. In this second phase, we are trying to narrow the focus to trade and content. We know that you have had a lot of experience in recent years regarding Canadian stories to be told abroad, and how to better make them available, either through better marketing or through better distribution. We would appreciate hearing your recommendations on how Canada can remain at the leading edge.
Mr. Bell: Thank you, Mr. Chairman. What I thought I would do today is try to highlight two principal issues that I think are critical for public policy in telecommunications and are, as I understand it, very much part of your focus. Then I would be very happy to answer any questions that you might have.
I would principally draw attention to the issue of what are the appropriate public policies for the stimulation of competition in telecommunications. This is a subject of considerable importance if we are going to stimulate advanced, efficient, and favourably priced services. Telecommunications services are not just another industry. They are very much an infrastructure industry. They affect the efficiency and effectiveness of business. They, by lower prices and better quality services, can affect living standards.
The issue of competition in telecommunications is a particularly important one in the area of local telecommunications. If you look at what has happened over the last decade or so, there has been a rapid expansion in our ability to handle data, to manipulate data, in any single location. Our ability to move large bodies of information between locations is very limited. We have that capacity in long distance, where we have built a lot of long distance fibre, but in the local loop, as it is called, in the cities, within individual urban communities, our ability to move that kind of information is very limited. Local telecommunications has, in fact, been a bottleneck in the development of a lot of new services and a lot of new efficiencies.
The first issue I think is competition, and for some very good, real economic and industrial reasons.
The second issue I will address is the question of what is appropriate public policy for the stimulation of industrial gains of economic growth from this sector. We are dealing in a country where we have advanced infrastructure and advanced calibre of demand for telecommunications. We have the capacity to be at the leading edge, given the nature of our demand. It is a sector that is growing rapidly and producing high-quality jobs. There is the obvious need and desire to capture some of that opportunity for Canada, to build some internationally competitive capabilities in Canada for the production of telecommunications systems and equipment.
Those are the two areas I thought I would address my opening remarks to. On the subject of competition, new technology over the last few years now permits local competition. We are no longer in the era of a natural monopoly, as it was called. Regulation is trying to catch up with that. There are changes that are under way to try to bring competition into local telecommunications. The good news is that the process has begun. The real news is that our choices are still very limited. You and I, in most of our locations, still only have one place we can go for any particular type of telecommunications services. The only place where we have seen the beginnings of competition is in the centre cores of cities, where the densities are high enough to be able to support the building of a second wire line infrastructure over the existing copper wire line network. That second wire line is normally fibre.
What is needed to advance competition in the local loop are some very deliberate policy efforts. This will take time to deploy. It will take time for the regulatory changes that are now under way to work their way through the system. It will take time to restructure an industry that is the product of long-standing public policy support.
Those companies and that industry did not attain the strength and position they now enjoy without deliberate public policy support through the regulatory mechanism to build them into the powerhouses that they are. It will take time for some new technologies to evolve and to become perfected technologies that will permit a wider-spread degree of competition rather than simply in the densest of areas where a second fibre line can be supported.
There is a reason that we have competition in some areas and not in others. Wire lines get built by being committed, laid down in trenches, committed down a particular path. To build a second wire line down that path, particularly a fibre line with a lot of capacity, you need to have a lot of density. You have to have revenue density, but it has to be on that path. A location a block away is no good; it has to be on that block where you have put that wire. That is why you have fibre going up in the downtown cores, where there are tall office towers that have a lot of density, buying power for telecommunications. You have fibre in long distance traffic, where you can consolidate a lot of traffic from a lot of carriers into the intercity pipes, but you do not get that kind of competition outside the central city cores or outside the major cities.
Wireless is a promising alternative for new competition. The reason for that is that when you build a cell, you put a radio antenna on top of a building or a tower, you can build it to some sort of scale. You can put a certain number of radios on to take care of the number of customers you have. As you add customers, you can actually add radios, and so your physical plant is not trenched and committed. It is gradually expandable as demand expands.
Second, half of your physical plant is on the receiving end. There is nothing between your cell and the receiving end except air. Half of your plant gets put in at your receiving end and you only put that in when the customer signs up. Again, you can scale your investment to the growth in the demand.
Third, when you put your radios up, your cell site, anything within three to five kilometres around that, or whatever distance that particular frequency can carry, is equally approachable. It is equally economic. Something within a 20-square kilometre area is equally economic to anything else within that 20-square kilometres, as opposed to needing to be on that path. You can find your density sufficient to cover the physical plant you have to build anywhere within a larger area than a wire line which has to find it on the path that it is built.
That permits us to reach more areas, to reach areas that are a little less dense, and to survive with lesser penetration. We do not need as high a percentage of the houses or offices we pass to be fundamentally economically viable. Therefore, it is a more forgiving platform in economic terms that makes it possible for it to be used for competitive introduction of services more readily than wire lines, which cannot be built as far.
In addition, at higher frequencies, which is where we are now able to operate, newly able to operate in the last few years, less is going on up there and so more bandwidth is available. So we can give out broadband capability, which is what you need for the modern calibre of high-speed data of full motion video teleconferencing, of some of the more sophisticated services of the moving of higher amounts of data quickly, efficiently and reliably. You need the broadband, and we have that broadband in the wireless area.
It also is something that can be installed quickly. Once the radio is on the roof, once the cell is built, it is a matter of hours to hook someone up, as opposed to weeks or months for trenching or pulling fibre to other locations. It permits us to extend competition more quickly in response to demand. It permits us in the areas where we already have some competition to provide yet another alternative, which is a diverse path. It has security of being through the air. If a wire gets cut, you can get something through the air. If one system gets interrupted, the other can be there, and it also is just an alternative supplier which permits new services and new competition.
I am not here to tell you that wireless is the be all and end all and the answer to all questions. There is no one solution. In fact, many technologies will serve in a variety of areas, serving the services and customer niches they serve best, and they are going to overlap in areas and they are going to compete. Certainly, wireless is one methodology for advancing the case for competition and the benefits of competition.
How can real competition be accomplished from the wireless platform? It depends very much on who is using it. If you give that platform to a telephone company, they are not going to use it to deliver voice services. They have an existing plant which does that. If you give it to them to deliver voice, will they reduce prices? Why would they do that, because they would be sacrificing the revenues on their existing base.
If you give it to a cable company, they are not going it use it for video or even now probably for Internet access because they have moved into the data modem world. They will not use it for video broadcasting or audio because they, as well, have an interest to defend. They have an existing infrastructure to protect and an existing price structure to protect.
If you want to get the maximum impact from a new technology, the best hands to put it in are independent hands. They have every incentive to make the most of it, to develop the most new services they can, to be the most aggressive in the pricing that they adopt, to provide the best customer support. They have no existing franchise to protect and, therefore, the independent will provide more competitive stimulus. After all, the incumbents already do dominate voice and television, mobile services, long distance services. On every existing platform, there is room for some competitive stimulus from independent entry.
Once we decide that wireless is a promising alternative and that we want to give it some play in the marketplace, some field in which to operate, how do we give it the maximum opportunity to make the most competitive impact possible? First, if you look at the conditions that someone wanting to build a wire line in downtown Ottawa would face, there is no regulatory restraint. There are no public-policy-imposed costs or burdens or restrictions on their doing business. A wireless entrant needs to use radio spectrum.
The radio spectrum is controlled by the government. They control it to avoid interference. They control it because of international accords on spectrum management, and they control it because it is a public good. It is a public asset. The issue of how government makes that spectrum available is critical to whether it is going to have its maximum impact or not. It is tempting for governments, particularly when they think about fiscal deficits, to want to raise money from this.
Think about it. If you raise money from wireless entry but you do not raise that same public money from wire line entry, it is fundamentally antithetical to the objectives of competition. It is unfair. It is discriminatory. It means that the wire line entrants or the wire line incumbents do not pay, but the new people coming in who most need the encouragement to advance the objective of competition are the ones who are expected to pay.
It did not matter in the past. When this happened in the past, it was not important because you used copper wire for voice. You used coaxial cables for television. You used wireless for mobile. They did not do the same things. Today, they can all do the same things. Each of those platforms can deliver voice video and data services directly in competition with one another. How you treat them relative to one another is now a fundamental competitive issue. Whatever method of entry you use, whatever method of allocating, of handing out spectrum the government chooses to use, it is important that it not create discriminatory burdens on the entrants compared to incumbents, or entrants using other technologies.
With that as background, there are four basic questions that the government now has to face, and face with some immediacy. One question is how do you allocate spectrum. The U.S. has gone to auctions for a particular reason. We have used, historically, administrative evaluation and assessments. What technique will serve our policy objective of competition best? In what circumstances would auctions work? In what circumstances should some other method of allocation be used?
The second question is: Who should be eligible? More particularly, should the incumbents be allowed to enter or should we save it for the independents?
Third, when should more entry be provoked? At what point in time do you let out more spectrum, having regard to the challenges faced by new entrants, having regard to the gradual evolution of a regulatory regime?
Last, in handing out spectrum, are there any other policy objectives that should legitimately be made part of that debate, part of the assessment in who gets the spectrum? The particular one, of course, is industrial impact and which method of allocation would permit us to address that more effectively.
Auctioning has some appeal. It is administratively easy. The government does not have to make a decision choosing the winners and disappointing the losers, but it also means that they cannot make any judgments on the relative impacts of one entrant versus another. The highest priced payer wins. Second, it can be more expeditious. Once you have established the rules and procedures for auctioning, you can put spectrum out more quickly once you decide you are ready to do it.
It originated in the U.S. for a particular reason. In the U.S., there was a fundamental distrust of government. They were looking for an impersonal method, a non-discretionary, non-government-involving method to hand out spectrum. They found it in lotteries. They drew lots out of a hat. Dentists from Des Moines would win a licence. They had neither the ability, nor the interest, nor had they ever dreamt of running a telecommunications company doing anything over that spectrum. They would turn around and flip it and sell it to somebody who had the interest to come in. They would make a huge windfall. People woke up and said, to the extent that charging an entrant an economic cost is a burden that is adverse to competition, we are experiencing that adversity. The money is being made, but it is being made by some fortunate person who won the lottery. The public, who owns the asset, is getting nothing. There was a huge embarrassment, out of which grew the idea of auctioning.
That is not the Canadian history. In Canada, we allocated the spectrum firstly on a first-come first-served basis, and then if there are too many people, if more people want the spectrum than there is spectrum available, we have gone through a series of submissions and administrative evaluation, the choosing of the one that seemed to best serve the policy interest, and we then charged fees. The government has collected significant money. These are annual fees. Cumulatively, over the years, some fairly large amounts of money have been collected, a very respective amount compared to some of the auction prices paid in the U.S.
Having moved to auctions, people then started to grope for an economic justification for it as well. Indeed, economic principles tell us that if the market sets a price, it is probably a proper price, that it is more likely, the theory would have it, that you would get the right price, the economically efficient price, the pro-competitive price, out of an auction. But is it so, because that same theory tells us something else. It tells us that that condition can prevail of the most economic price if you also have the right economic or market conditions, those conditions being, economic theory would insist, a high number of non-dominant bidders and very fluid capital markets that will invest money in new technologies and in new start-ups as readily as they would in incumbents.
Absent those two conditions, you do not get the result that markets through auction will produce the most efficient economic result. Auctions reflect the market environment in which they are held. If they are held in a monopoly environment, they reflect the influences of monopoly and not the influences of competition and not the prices that are appropriate to the stimulation of competitive entry.
If wireless entrants must pay for the right to carry on business and the wire line entrants do not, then you do not have another fundamental condition of competition, which is uniform burdens of public policy among direct competitors. That is especially the case if the incumbents are able to bid. If the incumbents have the opportunity to bid, they can bid the price up. If they bid it up very high and win, they are paying a premium price on a little bit of the business that they operate. The rest are not being charged a fee. This is a small price to pay to preserve their market dominance or their monopoly, to avoid competition, to keep the prices up.
If they lose, they have put the burden on the new entrant, forcing him to pay higher prices, forcing him to charge the same prices they charge. They have crippled the effectiveness of the competitive entrants and the ability of the marketplace to have the most efficient player, by virtue of his real hard costs, win and stimulate competitive efficiency in the marketplace.
In the U.S., for example, the incumbents were not allowed to bid in auctions for that reason. Indeed, in the case of the area of high-frequency telecommunications in which I am involved, called local multi-point communications systems -- we call it LMCS; they call it LMDS, to be different -- the tel companies not only could not bid and the cable companies not only could not bid, but also they were restricted from coming in for five years, so they could not buy in either.
Let us say we exclude the incumbents. Does that solve the problem? Can auctions now work and do the job? Well, not so quickly, because what economics tells us again is that the price that the auction ought to charge, ought to result in, is the quantification of the scarcity value. That is all it should charge. It should charge only the scarcity value, according to economic doctrines. However, if there is scarcity value, it is not in the spectrum; it is in the services you can deliver through the spectrum.
Spectrum, in and of itself, is worthless. Give me all the spectrum you like to deliver Chinese services north of the Arctic Circle. It is worthless. In economic terms, it has no value. What is valuable are the services we can perform through that. The services we can perform through that are also performed through artificial spectrum on wire lines. If the right to carry on business in the wireless mode is to be charged only scarcity value, then the scarcity value must exist in the marketplace for the services, and that same scarcity value should be charged to the incumbent.
That is politically difficult, we are told. You cannot come around years after the fact to the telephone companies, the cable companies, and everyone else who is in business out there and say, "Now we are going to charge you something." So they say do not worry about it because the scarcity value is short-lived. With all the competition coming in, particularly with your entry through wireless, the monopoly, the scarcity, will disappear. So we do not have to charge the existing guys. Then why charge the new guys? The answer is that their scarcity value is going to disappear, too, but they pay it up front. It is not that they pay it every year and it goes down as the scarcity value goes down. They pay a lump sum up front for the scarcity value that they are then going to cause to disappear, and that is the reason for not charging the existing players.
The second problem with the economic theory of charging scarcity value is that we do not know how to charge just scarcity value. Think about how you would decide on a bid price. If you are coming in with the technology that permits you to do things more economically, to do things at a lower cost, you are going to say: I can pay a premium for scarcity value, but I can also pay more because if I can get into business and my costs are half the costs of the existing operators, I can afford to pay more because there is a lower cost of operation for me. In the extreme, I will bid away all of those savings, or a large part of them. The result of bidding away those savings is that I put an umbrella, a shelter, over the costs of the old technology, over the old operating costs. He is now protected because I have paid the difference between my costs and his costs. I have paid away my savings into the treasury rather than using them for competitive stimulus in the marketplace to allow the market to choose the cheaper platform.
It is no longer a cheaper platform. It has paid the difference in fees to the government. That is clearly anti-competitive because it shelters the old against the competition from the new. It shelters the inefficient against the savings that a new platform could bring.
The economists, incidentally, acknowledge this, and they say you should only pay scarcity value. A Nobel prize winner by the name of Vickery said that there is a solution: We measure the difference and we give it back. The problem is that no one knows how to measure the difference and how to give it back. That is the next Nobel prize, when someone figures out how to actually take the difference that is not scarcity value but savings value and put it back into the economy appropriately.
It does not necessarily produce the right economic price for competition. Indeed, in the current market circumstances of a non-competitive environment, it is likely not to produce that price, even if you exclude the incumbents. Maybe then it produces an economically efficient outcome, at least. Maybe that is a good reason for having it. The key to economic efficiency in the post-allocation market is really the collection of markets you have. You need economies of scale. You need to be big enough to have economic efficiencies. You need to get at many markets to have minimal economic efficient operations because you do not have deep penetration in any market. You need regional clustering.
We have spent six or seven years in this country, with the help of the CRTC, supporting the restructuring of the cable industry to regional clusters so that it could be economically efficient when it got into two-way communications. You have to have regional clustering.
Third, if you are going to serve the national accounts, if you are going to serve the Royal Bank, it is interested in having one platform, a uniform technology from end to end, so that it can be served in Montreal, Toronto, Winnipeg, Halifax, Vancouver, St. John's, everywhere. It wants the same platform controllable in a network-management way that it can see visibly off a single platform. You need to have national presence as well.
Now, think about an auction. We put the spectrum for all these cities up for auction, and I go in and I bid on the basis that I am going to get a certain collection that is the minimum collection that I think will be at least economically efficient, and then a spoiler comes along, whether it is an incumbent or someone who wants to make trouble, and he steals one of those markets or two of those markets, interfering with the efficient distribution of markets. What is worse is I have bid prices on each of those markets individually and I have set the price on the basis of the efficiency I think I can have when I have the critical mass of markets.
Now, I win some markets and I lose some, but I cannot lower the price I have bid on the ones I won, which was set on the assumption that I win them all. I cannot withdraw my bid; there are rules against that. They say that withdrawing a bid makes a mockery of an auction -- people will bid and then walk away. We cannot have an auction where people do not have to pay the gavel price.
I end up -- and the economists will admit this -- paying a price that is admittedly economically inappropriate and too high. I end up with an inefficient market, and I have won a few markets at prices that I should not have been expected to pay. There is a reason why, when we instituted competition in mobile telephony in this country, we gave national licences to the independent entrants with full national coverage.
I will not belabour some of the problems you have seen in the U.S. with auctions but they are legion in terms of overpayments and defaults. The system is not foolproof. I will not belabour any further the issue of eligibility if you are going to have an auction. Even if you do not have an auction, the question of eligibility still goes to the value of an independent entry for stimulating the maximum competitive impact.
It has been a long while since I taught in these areas, as I used to some years ago, and so I had two groups of economists do a report for us. I said, "Here is what we are saying out there." I sent them a copy of the brief I filed with you some months ago and asked them to write an independent report. I wanted independent assessment of the merits of this case.
Here is what they came back with. They said exclude all incumbents, not only the tel companies and the cable companies, but the long distance players and the mobile players. They said make sure you give national allocation of licences to the existing high-frequency entrants before you have any other entry, if you want to have efficiency, if you want to have competitive stimulus from that entry. Third, they said that if you are going to charge fees on entry, charge them equally to the people that compete with them on the wire lines, whether they are new or old. Fourth, they said phase the entry. Too much entry, too soon, will fragment the market and simply play into the hands of the incumbent. You can have too much entry for economic efficiency and for competition if it comes too soon. If you fragment excessively, none of the entrants is strong enough to get financed, to be viable. That plays into the hands of the incumbents.
What it does both in economic theory and in experience, they argue, is forces consolidation prematurely. Before the independent entries manage to become viable, they are forced to consolidate, and you end up with more consolidation and fewer players at the end of the game than you would have if you had a more managed shift from regulated monopoly to market competition.
Let me say a few words about the other industry goals. I know that is important to you. There are objectives in public policy beyond simply putting spectrum out into the marketplace. I believe the industrial goal is a legitimate and important one. It has been public policy that has deliberately supported industrial spin-offs in telecommunications that explains the success we have had in this sector. It has not happened willy-nilly in the marketplace. It is the product of an environment in which we say we have a regulated monopoly. We are going to allow that regulated monopoly to charge the consumer the price necessary to spend money on R&D, to spend higher prices for the development of the new technology, and we expect them to do it in Canada. That has been the source of our success thus far.
It is a sector that has more promise for growth and high-quality jobs looking forward if we can create internationally competitive operations in Canada than it ever has before. If it has ever been important, it certainly is important now. It can represent the capturing of far more value than an auction price is going to capture, particularly if you do it by allocating the spectrum in a way that maximizes your industrial benefit and charges a fee to boot, so you can capture both.
The auctioning method of allocation simply cannot address other policy goals like industrial benefits. Giving the spectrum to the highest priced bidder simply does not permit you to make the judgment that this player rather than that player would make for a better technological spin-off, industrial spin-off in Canada. Even in the U.S., the home of auctions, when they have other objectives, they have not charged fees. They have given spectrum away to those they thought would serve those objectives, whether it was developing a new service or developing a new technology in satellites or otherwise, or serving broadcasting objectives. In the U.S., they have less need than we have to worry about this. I did an interesting study. I had our engineers look at all of the technologies that have coalesced in order to permit the high-frequency telecommunications, high-speed data services, digital, encrypted, forward error connection, all of the new technologies, and the miniaturization of them, to come to costs that are commercially viable. I asked the engineers to trace each of these down and tell me where they come from. Without fail, every one of them is the product of U.S. Space and Defense spending -- R&D and procurement. When you do the research and development and the procurement for the U.S. military, for the U.S. space agency, the industrial activity is also in the U.S.
Second, the U.S. has a larger market. If you let a licence out in the United States, it has enough industry impact that people look very seriously at locating in that market to capture that opportunity. Canada cannot afford that complacency. The U.S. says that it will leave it to the market, but it does not leave it to the market. It does not call it intervention. It does not call it discretionary allocation of licences. It calls it Space and Defense spending, because who will object to defending oneself? Who can object to spending money for the exploration of space technology? The fact of the matter is that it is a market imperfection that leads our same economists to argue that we better use whatever leverages are available to us, including spectrum allocation. We are poised in this country, because we started early with high-frequency licensing, to capture some very important industrial benefits if we stay the course and if we use licensing in order to extract the maximum industrial spin-off opportunity from that activity.
So is auctioning a disaster? No. There are places where auctioning could and, indeed, should be used. Where does it work? It works well, and the economists again say this in our studies, where the market is already reasonably competitive, if not fully competitive. It works well when the technology is mature so that the decisions you make on how you allocate spectrum cannot make much of a difference on the technology development or where it locates its activity. It is already a mature and established production that you are dealing with.
That is not yet the case in wireless. It is not yet the case in telecommunications. My suggestion to you would be that it would be unfortunate for Canada to given up a cost-free lever for economic and industrial benefits at this critical time, particularly in a country where we have a lot to worry about in terms of the industrial side. Terms of trade constantly erode against us on our resources and technologies, and services become more expensive. If we do not get a bigger share of that second activity economically, we are destined to continually erode in comparative economic standing in the world.
If we are going to experiment with auctions -- and the government policy is to experiment with auctions, to try it, not necessarily use it in all cases. It explicitly says where there are economic, technological, social, cultural reasons to justify doing otherwise, we will give spectrum out by other means than by auctioning. Why experiment with a place where you have the most to lose? Why pick this area right now for your first experiment where there is a lot to gain and a lot to lose by the choice you make? We will have teething problems with a new method. Why have them in the area where there is most risk?
There you have it. The argument I make is that we should continue to use administrative allocation, make that administrative allocation focus on the objective of competition.
Administrative allocation of auctioning and competition are not at odds with one another. Auctioning is not synonymous with producing competition. Indeed, it is more likely the antithesis of it at the current time. Use our leverage for industrial gains, set fees to collect whatever we want, apply them uniformly and collect even more if we need money and think this is a sector that ought to be providing it.
I would urge, as well, that we must put as much muscle behind the effort to take a regulated monopoly and make it competitive as we put behind the regulatory process to build the monopoly companies in the first place. We must have deliberate regulatory efforts by the regulatory commissions. We must be vigilant against market prices which will be counter-productive for market entry of new competitors.
Let us not delude ourselves -- it is going to take time. It will take time for the evolution of technology; it will take time for new guys to get established; it will take time for the regulation to work its way through the system. Let us not try to rush to doing too much, too fast, and cause the defeat of our own objectives.
The Chairman:Thank you, Mr. Bell. That was not only an interesting presentation but very stimulating. I think your clarity and your enthusiasm is very contagious.
Senator Spivak has a few questions.
Senator Spivak: I have two comments, and then I have a question. First, I want to say that monopoly was so simple. In order to get competition, you have to go through so many hoops. Second, I want to say, that all you hotshot free enterprisers, all you people who believe in the market, you really believe in regulation. At least, that is the message that I received from your presentation -- the market has to be competitive, it has to be this, it has to be that; we have to regulate so that we can get competition.
By free enterprise and competition, what do we really mean? Do we really mean managed and regulated?
Let us look at the incumbents. I was there when Perrin Beatty asked Senator Oliver to look at the whole area, and that was in 1992. We are now in 1998. Do we have what we should in terms of competitiveness in our domestic market? What do you think of the competitiveness in the international market?
I know this is not directly addressing what you were talking about in terms of auctions, but you made such a convincing case that I am convinced, so I want to ask you some other questions.
How do you compare it to what is happening in the United States? Give us your view on the issue of competition both domestically and internationally, and compare it to the United States.
Mr. Bell: First let me say that I am a passionate believer in the market, but I believe that if you want the market to be competitive, you have to first restructure it so it will produce competitive results.
Senator Spivak: I agree with you.
Mr. Bell: It is one thing to say I believe in free boxing; everyone should just get in the ring and duke it out. But put me in the ring with my kid sister, and it is unfair. First you have to make sure that you pair equals, that you prepare the market. We have spent an awful lot of time and policy muscle in this country making monoliths, very powerful guys, out of the incumbents. You cannot now say let the new guys in, do not watch what the monoliths do, do not watch how they restrict the ability of the newcomers to play, do not worry about it, just auction everything off to everyone who wants to come in. Monopoly will produce self-perpetuating monopoly.
Take some structural steps first. Prepare the environment, and then let the market rip and you will get competitive results. It is a matter of timing and how you get from here to there. I do not by any means quarrel with wanting to get there, which is the market, with having the market dictate. But the market, even in economic theory, only does that job with proper results once you have done some restructuring of the fundamentals of the industry so it is capable of producing that result, or it produces antithetical results to what you think you are after.
Do we have competition yet?
Senator Spivak: We were supposed to have competition between the cable companies and telephone companies.
Mr. Bell: That is what was supposed to be happening. I have been arguing for a few years that that was not happening and would not happen. It has not been happening partly because, at least on the cable side, they have had financial priorities and entering someone else's bailiwick has not been their highest priority.
Before you get into the boxing ring, you want to make sure you can fight it out with the guy you are going in with.
I will start by improving my plant, by getting my debt equity ratios into a little more robust position, if I can get there. I will go into data in areas they are not in. I will not take the biggest guy on the block on first. Therefore, the incumbents are hesitant to get into one another's backyards.
The technology exists today for coaxial cable to be used for voice, for interactive data, for video conferencing, for all of those things. In places like Germany, there are orders being placed and those things are being deployed. They are not being deployed here.
I think it was 1992 that I was first told that we were going to have digital expansion of cable. We are now told that we will not have it yet for another year or two in this country. Part of the reason for that is that technology keeps rushing ahead and you wonder if you should commit to this stage of technology? I can now see this one coming and it will permit me to do more and maybe cheaper. There is always a reason to wait for the next thing to happen.
I think that you have not seen the competition between the incumbents that we have been promised for at least six years now. We have seen it a little more in some jurisdictions, but not an awful lot more, and for not dissimilar reasons to why we have not seen it here. The priorities on which cable has invested or which telephony has invested have not led them as directly and immediately into one another's territories. They have had enough to do in their own areas. There are enough new technologies for them to deploy to capture revenues in their own areas; they are not in any great hurry to break down the dominance that they enjoy in their respective sectors. There is a mutual deterrence that seems to exist out there.
In the case of telephony, they would argue that they have been held back by regulatory environments, and to some extent this is true. The last time I sat in front of you I pointed out how the regulator was really interfering with the opportunity for satellites to compete with cable, and they succeeded. They succeeded in blocking the effective entry of competition for a long while in that field.
We are slowly learning the lessons. We are slowly changing the paradigm and the mentality of our regulator. Is it happening elsewhere? You have to differentiate local and long distance. It is happening in long distance domestically in most countries, virtually all countries. It is happening very slowly internationally. The reason is that the countries act like monopolists.
Each of these countries through the international accords collects a lot more money out of the international calls than it costs to deliver that call. They use that to finance their domestic telecommunications or other budgetary requirements. Those international accords have had the countries acting like private-sector monopolies in any domestic environment, and they do not want to give it up too quickly. So it is coming very slowly there. Technologically, it could burst on the scene. It is coming. It is happening. The regime is being bypassed.
In local, it is happening very slowly. There are very few places you can look and find competition in the local environment. The U.S. is a bit ahead of us on that, and it is led primarily by fibre in the dense areas. It is not yet available beyond those dense areas virtually anywhere.
Senator Spivak: You say the technology is there. I am curious to know whether we are being held back from innovation. We were promised lots of innovation by the players themselves. Are consumers benefiting, and are they going to benefit, or is this really just for businesses? Could you answer this question in terms of your own company as well?
Mr. Bell: That is a good question. The first place that a competitive entrant will go will be to serve the business sector. They are more immediate adopters of modern services, of high data rates. They spend more per customer. It is easier to serve them. Therefore, that is where a new entrant will start.
The residential side will come later, for two reasons: one, that they do not spend as much per customer and, two, because the unit costs on the equipment when you first start with a new technology are high, so you have to go into places where there is big demand. As there is more of that equipment produced and as the refinements and the design take place so they can be produced more cheaply, you can afford to go into increasingly smaller locations. Ultimately, you can go into the single-family home. You will start on the residential side with high-rises, with multiple dwelling units, and you will move from that into residential. It will be in stages. It will not happen overnight across the board but, eventually, new services will be stimulated. New price efficiencies will happen.
You raised the question at the beginning about content. The best way to stimulate new content for the modern information highway out of Canada is to make sure that you have stimulating, independent new entrants with a platform on which they can be vigorous and robust so that they can develop some of those new services and ensure some Canadian content on that highway. It will happen elsewhere. How much of it happens here depends on whether we get the dial set right so our entrants are successful enough to be able to be the launching pads for those.
Senator Johnson: That was an excellent presentation. Most of my questions have been answered in the last dialogue. Is it true that Canada appears to be ahead of the United States in the wireless market? We have LMCS companies like yours that are ready to launch whereas, in the U.S., where it is called the LMDS market, it is lagging behind. Is this true? What accounts for Canada's head start? Does it translate into a competitive advantage for us?
Mr. Bell: It could translate to a competitive advantage. What happened was that Canada moved out ahead by about a year in the granting of the licences.
We had all been told, including the licensees, but certainly government, that the technology was ready to go. The manufacturers had represented that they were ready to go into operation. When we went and kicked the tires, we found that was not so, that the equipment was not ready. There was literally no manufacturer that could have put us in the market in 1997.
It will now start coming to market in 1998 but still with some rigidities in the technology which will not permit us to do all of the things that we were promised we would be able to do, nor do them as economically as we were told we would be able to do them. That will come in the course of 1999, toward the end of 1999, and it will evolve gradually.
We had a head start. The technology was not as ready as we thought. In the meantime, the U.S. has now auctioned, and that has had a further boosting effect because it has meant that there is another significant demand that helps justify the manufacturers getting on with it. What was really going on is that the manufacturer indicated that they knew the technological answers, that they have seen them in space and defense and other activities. They said, "We know that if you give us a contract and spend the money, we will spend your money to finish the design and we will deliver the product", but they knew it was going to take time.
We have not had the full advantage of that extra year. It can be to our benefit that we started early. Two Canadian companies are well-positioned to be significant players internationally: Northern Telecom and Newbridge, both of which have now an offering of a fully integrated network package for the deployment of high-frequency broadband telecommunications. Both are good Canadian companies.
What has happened is that they are not free from competition. Lucent bought the R&D that was going on in the Hewlitt Packard labs, but that is another year to come to another market. Erickson and Alcatel are developing their own technologies. They will be a little bit later. Bosch bought out Texas Instruments' technology. Texas Instruments having been one of our partners, I know this case well. Bosch bought out their technology but they had to do some modification for the integration of the technologies and the cumbersomeness to a more elegant solution that would be economic.
Nortel and Newbridge are positioned to get an early start off the mark, if the licensees here can place significant orders as credible players, because they are going to be efficient. They are going to survive. Their orders count. They have the financibility because they look like they will survive. In these industries in this day and age, for new entrants, vendors must put up vendor financing. They have to do a credit assessment. They cannot sell without vendor financing. They cannot get vendor financing unless there is the creditworthiness to permit them to do it. If our contracts, ours and Connexus, are large enough, if our prospects are good enough, if our efficiencies are significant enough because of our clustering and our national scale, et cetera, then they will be able behind those contracts to move ahead quickly, to be first in the market, to demonstrate to the world that they know how to do it. The world will then beat a path to our door. They will have to be good at it, but they are positioned to be as good at it or better at it than anyone else in the world, if we stay the course and produce an environment where we have a customer base at home that offers them that base that they need to really get going.
Senator Johnson: I wanted to follow that up. How do you keep up with the technological changes, which are so astonishing, even in the last two years since you got your licence? I know you spoke about them briefly. Have they affected your market?
Mr. Bell: The ones that have taken place?
Senator Johnson: Yes, just since you got your licence.
Mr. Bell: First you hire a bunch of engineers to watch it for you so you keep up, and it is a moving target. There was no doubt in my mind a year ago that we were going to build two parallel networks, one for voice and one for data. We knew that, in the long term, a single physical network would serve both. With the progress that has been made on putting voice over data networks as such, we are probably about nine to twelve months away from being able to say who needs a separate voice network. I will deliver voice, video, and data over the data network, and it is more efficient, has a lower cost as a network. It makes more efficient use of bandwidth and I do not have to replicate, I do not have to build Class 5 switches. I would save millions of dollars. If I want to offer services tomorrow, I cannot do that. If I want to offer high-quality services at the calibre of the telephone companies, because they do deliver good service, I have to make the parallel investment. If I believe the technology is going to be there in nine to twelve months, I can save millions of dollars and go with the single investment. What you do is you just keep watching it and you try not to spend on stuff that will shortly be historic legacy burdens. It is a fast moving game, and we all face the problem of being outdated very quickly.
[Translation]
Senator Bacon: Local Multipoint Communication Systems or LMCSs could have some very interesting applications in countries where telephone and cable infrastructure is not highly developed. Have you considered forming associations with other Canadian companies involved in projects with a view to operating LMCSs?
Mr. Bell: Six of the world's largest telecommunication firms have invested enormous sums of money in LMCS systems and equipment, not to make inroads into the Canadian or North American markets, but rather to make inroads in underdeveloped countries like Mexico where cellular systems are used for inter-office communications because communications lines do not work. The benefits of investing in these countries are enormous: things progress more quickly, less investment capital is required and expenses are lower as well. Investing in telecommunication systems in North America or in Europe requires substantial sums of money and industry people feel that the biggest benefits to be derived from LMCS will be found in countries outside North America.
All manufacturers start out in our markets because it is easier for them to develop, modify and fine tune their systems before launching their product in Mexico or elsewhere. Many companies have their eye on international markets. If we succeed in getting our network up and running in Canada, then we will work with equipment suppliers here at home and give them opportunities to get involved with development abroad. Major markets for this technology are located abroad. Here in Canada, we will use this technology to stimulate competition and to offer services that are unavailable over existing copper wire networks.
We will use this technology abroad to provide basic services and to help international companies and countries like India and Mexico strengthen their communications systems. That is how things will evolve. This is a very important opportunity for Canada, but we need to move quickly on it. Initially, our efforts here at home must be successful so that we can turn our attention to the export market.
Senator Bacon: In 1996, you announced that money was being invested at Montreal's HEC and at the University of Toronto to establish telecommunications laboratories. Are these laboratories now up and running? Are you still involved in these activities?
Mr. Bell: These laboratories are not yet operational because we still lack the necessary equipment. Initially, we launched our activities in Ottawa. We have three cells in operation conducting tests using preliminary equipment. We expect that by July or August, we will have the necessary equipment to launch on a national scale. Toward the end of the year, we will launch in Montreal. We are still considering setting up a laboratory based on our network.
The Chairman: It is already 5:45 p.m.. Unfortunately, we will have to wrap up these proceedings. Your presentation was extremely interesting. If our researchers have any additional questions, could they contact you?
Mr. Bell: Of course, Madame Chairman. I also have several copies of the studies I referred to as well as some relevant comments.
The Chairman: The study you presented this spring is now officially part of today's presentation. It is no longer considered a preliminary study.
[English]
The Chairman: We will now have a short business meeting.
The committee continued in camera.