KiwiGrocer is a classic Catch-22

Dr Eric Crampton
3 August, 2021

KiwiBuild never made any sense and could not work. The reason was simple. The blockages in the planning and infrastructure financing system that made it impossible for builders to keep up with demand for housing would also stop the government from building houses.

The government would have to get those impediments out of the way if they hoped to get anywhere.

But fixing the land use planning system and infrastructure financing bottleneck would make KiwiBuild redundant. Private builders would be able to get on with building.

So, if you wanted KiwiBuild, because of a housing shortage, it wouldn’t work. But if it would work, you wouldn’t need it. It’s some catch, that Catch-22.

The same logic holds for KiwiGrocer, or whatever the Government might want to call any government-sponsored grocery chain. KiwiBuild could not work because it neither targeted nor resolved the real bottleneck. And neither would KiwiGrocer.

Last week, the Commerce Commission issued its draft report on the grocery sector. The report argues grocery prices in New Zealand are high by international standards, both in dollar terms and as a fraction of household spending. It suggests grocery margins seem lucrative. And it proposes an extensive list of potential solutions, including government sponsorship of a new grocery entrant. For simplicity, let’s call that last option KiwiGrocer.

High apparent profits on their own are never an argument for intervention. Normally, high profits in a sector serve as a giant flag encouraging others to enter in search of some of those gains.

Economists sometimes say that free markets hate profits. When everything is working as it should, investors pile into sectors earning abnormal returns. The resulting increase in competition drives prices down until the sector only earns normal returns.

So if government analysts claim a sector is earning abnormal profits, the right question to ask is what might be stopping anyone else from trying to eat that sector’s lunch. If there are not undue impediments to entry, it could be the case that the analysts simply have gotten things wrong. After all, who is more likely to be right? The team of analysts claiming abnormal profits, or the investors who scour the world for profitable opportunities and who have ignored this one?

The Commerce Commission asks the right question. The first half of Chapter 6 of the draft report makes clear it would be effectively impossible for a new supermarket entrant to make any headway.

Consider a multinational grocer like Aldi or Lidl, or any of the other dozens of large grocery chains. If one of them wanted to eat New Zealand grocers’ lunch, what would it have to do?

The answer would depend, in part, on the business model. An online-only grocer would face fewer barriers, but Kiwis seem less keen on getting groceries online. A giant destination-shopping option like Costco might also have an easier time – it needs a much smaller number of sites to be viable, and those can be a longer drive away from downtown.

But trying to run larger-footprint neighbourhood supermarkets requires assembling enough sites to make the venture viable.

And that would be a problem.

First, the would-be entrant would need to find sites with suitable transport, power, and water infrastructure that is zoned to allow a supermarket. New Zealand’s zoning system is tightly constrained and seems to view existing supermarkets as reason that more supermarkets are not necessary. Finding suitable zoned sites will be a problem.

Next, the entrant would find another rather large problem. Even if the zoning allows for a supermarket, encumbrances on the land title may prohibit it. The Commerce Commission notes that sites that have been sold-off by existing supermarkets often have covenants against the site ever again being used for grocery retail. And supermarkets in shopping centres will typically have exclusivity arrangements preventing other supermarkets from entering the site.

Under sensible urban planning, this simply could not be a substantial barrier to entry. In cities built in grid patterns where any block can really be put to almost any purpose, it would be impossible to buy up and encumber enough sites to have any substantial effect on competition.

But if existing zoning and land use planning mean very few sites could legally be turned into supermarkets, most places that can be supermarkets will already either be supermarkets, will be places where supermarkets once were, or will be adjacent to existing supermarkets and encumbered with exclusivity restrictions.

Assembling the set of properties you might need to run a viable grocery chain will not be easy.

Of course, it gets worse.

Before you purchase any of those properties, you will need to go through the Overseas Investment Office. Even if approval is very likely, you will not know how long approval might take. The Commerce Commission does not note this issue, but it would easily be material when combined with everything else that prevents entry.

Overseas Investment Office approvals may also come in dribs and drabs, with any sites adjacent to sensitive land perhaps being held up longer than others.

After Overseas Investment Office approval is granted, the entrant would need to seek resource consents for new supermarkets. Even if the zoning suits, and even if the land is not encumbered, the new entrant should expect radical uncertainty about just how long each approval might take. The Commerce Commission notes some grocery applications appear to have taken multiple years, at significant cost to the applicant.

Currently, Foodstuffs is trying to build a mixed-use development including a supermarket along Dominion Road in Auckland. While they enjoy laudable support from the Environment Minister David Parker for fast-tracked permission, locals are objecting and trying to block the project.

What might a potential entrant think about a planning system that seems to require the direct intervention of Cabinet to build a supermarket? Might a new entrant expect that insiders with political pull have an advantage over potential entrants, and that the system overall is arbitrary and capricious?

Permission to build each of your supermarkets may take months or years. Some may be approved quickly, but others may only join your stable after lengthy and costly delays – with substantial capital tied up during the process. How do you wrangle the logistics of grocery distribution around a network where you simply cannot predict in advance when different sites might be approved?

It seems an utter nightmare barely navigable by insiders who have spent decades learning how to deal with our planning system, and impenetrable to anyone else.

So it is very little wonder that Aldi, and others, have decided a tiny market at the far end of the world with massive regulatory barriers to entry simply is not worth the hassle – despite apparently high margins here.

And so we come to potential remedies.

While the Commerce Commission lists several, only one of them really matters.

Recommendations for a government-backed KiwiGrocer simply seem a non-starter for the exact same reason that KiwiBuild failed.

The Government, as grocery development agency, would hit the same barriers as any other entrant.

But if the Government can ease those barriers, then KiwiGrocer would no longer be necessary.

So ease those barriers.

Begin by recognising that entry into the grocery trade is in the national interest, as recognised by the Commerce Commission. Instruct the Overseas Investment Office to provide automatic and immediate approval for any overseas grocer who may wish to enter. Then, loudly tell every possible entrant that that barrier is gone.

The Commission notes that restrictive covenants on properties, if anticompetitive, are void under Section 28 of the Commerce Act. So, void the ones that are anticompetitive, freeing up at least some sites for entry.

At the same time, follow the Commission’s advice to ensure competition is included in current resource management reform processes. The Commission notes that restrictions on alcohol licensing can be material in preventing new entry. Alcohol licensing boards often take the existence of nearby licensees as reason to block new licences, but that prevents entry by full-service grocers. Ensure that alcohol licensing no longer proves a barrier, and that competition is treated as a benefit to consumers rather than reason for objection.

While resource management and alcohol licensing reform are underway, ensure a fast-track process for consenting new supermarkets with guaranteed fast decisions – and a level playing field for access to that process.

If that were done, KiwiGrocer could be successful – but it would no longer be necessary. And, really, we should all expect better service from an Aldi, or a Lidl, or a Safeway, or a Kroger, or any of the dozens of potential entrants who might just know a little bit more about the grocery market than a government-owned supermarket.

It’s the best way of resolving New Zealand’s grocery Catch-22.

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