Productivity Growth in Canadian Telecommunications

Canadian telecommunications firms do not price proportionately to marginal cost. The prices of toll services tend to be above marginal costs, whereas the prices of basic local services are typically set below marginal costs by regulators. In such circumstances, estimates of TFP growth using the conventional Tornqvist (Divisia) formula which weights outputs by revenue shares in determining the rate of growth of aggregate output is theoretically incorrect and needs to be replaced by a formula which uses cost elasticity weights. Empirically, the conventional Tornqvist index yields a very distorted picture of efficiency gains in the two largest Canadian telephone companies during the 1980s. For Bell Canada, I calculate the upward bias to be approximately 75 percent over the period 1980-89 and 80 percent over the period 1985-89. For B.C. Tel a similar calculation yields an upward bias of 37 percent over the period 1980-89 and 48 percent over the period 1985-89.