Government intervention in product markets 3.6.1

What is competition policy?

The aim to promote competition, make markets work better and contribute towards improved efficiency in individual markets and enhanced competitiveness of businesses in overseas markets.

What does competition policy aim to ensure?

• Technological innovation which promotes dynamic efficiency in different markets

• Effective price competition between suppliers

• Safeguard and promote the interests of consumers through more choice and lower prices

What is the aim of anti-trust & cartels?

eliminating agreements that restrict competition including price-fixing by firms with a dominant market position.

What is the aim of market liberalisation?

Introducing competition in previously monopolistic sectors such as energy supply, retail banking, air transport

What is merger control?

Investigation of mergers and take-overs which could result in firms dominating the market.

What does CMA stand for and what does it do?

Competition and Markets Authority.

The body given the power to investigate mergers and takeovers in the UK and consider whether they should go ahead.

What are some ways that can control market power of firms?

• Tax on monopoly profits

• Liberalisation of markets

• Introduce price caping policies

• Nationalisation

How is profit-capping achieved?

Through cost-plus pricing which assesses the production costs of firms and the allows a certain price to be charged above that, to limit profits.

What are some disadvantages to cost-plus pricing?

• No incentive for the monopoly firm to try and reduce production costs and become more efficient.

• Risk of not enough profit being earned to provide finance for innovation or investment.

What is revenue-capping?

Works in a similar way to price capping- regulators may want a firm to only earn a certain amount of revenue per item sold.

Why isn’t true profit-capping used?

• Disincentivisation of business activity

• Reduction in corporation tax revenue

• Ease with which firms could bypass the regulation (setting up subsidies or offshoring)

• Difficulties in monitoring

What does the British Standards Institution (BSI) regulate?

Healthcare, aviation, food and drink, construction and utilities

What does The Office of Rail and Road (ORR) regulate?

Sets performance targets for train operating companies in terms of punctuality and reliability, and produces a report every month.

What does Ofwat regulate?

Regulator for the water industry in the UK, it sets performance targets and quality standards for companies.

What is the de-regulation of markets?

Attempts to liberalise a market to encourage new entrants to act as challengers to established firms.

What is one approach to encourage competition in a natural monopoly?

Split and industry into the core network aspect and the final mile service to the consumer.

What is access competition in the UK mail industry?

Where the operator collects mail from the customer, sorts it and transports to Royal Mail’s Inward Mail Centres, where it is handed over to Royal Mail, who are paid to deliver it.

What is end-to-end competition in the UK mail industry?

Where an operator other than Royal Mail undertakes the entire process of collecting, sorting and delivering mail to the intended recipients.

What are potential advantages of de-regulation of markets?

• It breaks down barriers to entry therefore market supply should expand, bringing down prices for consumers.

• Increased competition and heightened contestability leads to improved productive efficiency, allocative efficiency and dynamic efficiency.

• By forcing firms to charge a price closer to marginal cost, allocative efficiency is improved.

• If firms have less pricing power they are more likely to seek profitability through cost reduction, boosting productive efficiency and reducing x-inefficiency

• Greater capital investment and productivity could lead to improved dynamic efficiency.

What are some companies that are privatised?

• Royal Mail

• Regional Water Utilities

• Eurostar

• Tote Betting

What are some arguments for privatisation?

• Private companies have a profit incentive to cut costs and be more efficient and raise productivity

• Government gains revenue from the sale of assets

• If a state monopoly is replaced by a number of firms this will lead to lower prices. The competitiveness of the macro economy may also improve

• Privatisation can create a shareholder democracy

What are some arguments against privatisation?

• Social objectives are given less importance

• Some activities are best run by the state because they are strategic parts of the economy (water supply, steel and railways)

• Government loses out on dividends from any future profits. Public sector assets often sold too cheaply

• Shares are often bought/ held by large institutions such as pension funds, insurance funds and others.

What are arguments for contracting out?

• Opening public services up to competition can save the taxpayer money and reduce a country’s fiscal deficit.

• Private sector businesses may be more likely to achieve productive efficiency improvements and cost savings- leading to improved value for money.

• Businesses in the private sector might be more innovative, less hierarchical and less prone to suffering from diseconomies of scale.

What are arguments against contracting out?

• Businesses bidding to win contracts might sacrifice quality of service as a way of lowering their costs

• Doubts about some employment practices of service companies (low wages, poor conditions)

• Contracting-out/ outsourcing requires proper monitoring which itself involves extra spending

What are examples of nationalised companies?

• Network Rail

• UK Nuclear Decommissioning Authority

What are some reasons for state ownership?

• Nationalised firms can target social objectives

• Firms might charge lower prices- not focused on pure profit maximisation/ extracting consumer surplus

• Natural monopolies in the state sector can achieve economies of scale = gains in productive efficiency

• Can be used as a vehicle for hitting macroeconomic aims such as keeping inflation under control

What are some reasons against state ownership

• Absence of shareholder pressure might lead to diseconomies of scale and therefore higher prices

• Lack of market competition can lead to x-inefficiencies

• Firms may lack an incentive to innovate- leading to a loss of dynamic efficiency

• Losses of state-owned forms are absorbed by tax payers and can lead to higher budget deficits

What are arguments for rail nationalisation?

• Rail networks is a natural monopoly suited to state control to achieve economies of scale

• Rail fares can be controlled to improve affordability for rail passengers

• Profits flow direct to the taxpayer rather than to shareholders of private train companies

• State can direct investment into the network and borrow more cheaply to fund it

What are arguments against rail nationalisation?

• Competition on lines is more important than who owns the railway- therefore, allow more operators

• Private sector firms are more likely to improve dynamic efficiency and avoid x-inefficiencies

• Possible to regulate more fares on services run by private train operating companies

• History of state-run railways in the UK was not always positive

What is deregulation?

Involves reducing or removing government imposed restrictions and regulations on businesses, with the aim of promoting competition, efficiency and innovation.

What are arguments favouring deregulation in the UK?

• Increased competition, leading to lower prices and better services for consumers (improved allocative efficiency)

• Innovation- new products and services as companies are free to experiment and take risks (improved dynamic efficiency)

• Increased capital investment and economic growth as companies are able to expand and create new jobs

• More choices for consumers as new companies can expand their offerings.

What are arguments against deregulation in the UK?

• Companies may prioritise profits over safety and quality

• Increase inequality- large companies may dominate the market and small businesses may struggle to compete

• Government oversight and regulation is reduced therefore consumer protection reduces

• Environmental costs- deregulation can lead to negative externalities, such as pollution and social problems such as job losses.

What are arguments in favour of privatisation?

• Economic efficiency- may have incentives to innovate, reduce waste and improve service quality to remain competitive.

• Access to capital- allowing for investment in infrastructure and technology

• Asset sales bring in revenue for the government

• Reduction of government subsidies- reduce financial burden on tax payers by shifting some costs to the private sector.

What are arguments against privatisation?

• Profit motive leads to higher prices for consumers

• State owned utilities can be subject to more direct democratic oversight and accountability

• Concentration of market power in the hands of a few large companies reducing competition, consumer choice and allocative efficiency

• With natural monopolies it is not cost effective to have multiple competing providers and can limit the effectiveness of competition following a transfer of ownership