Competition policy in the UK

Monopolies and Efficiency

Your task

Governments have a range of anti-monopoly policies which they can use to improve economic efficiency

In your examination, you will need to evaluate these policies.

The verdict?

It can now be seen that it is not possible to come to any simple conclusions about the desirability of the competition in the market.

Competition is by no means always ‘best’.

On the one hand, monopolists and many

imperfectly competitive firms (Oligopolies) may exploit the

market, earning abnormal profits at the expense of

consumers, reducing output and increasing price. This

leads to welfare loss.

On the other hand, natural monopolies are far more efficient than

any alternative competitive market

structures. There may or may not be a link

between monopoly and innovation.

Measures aimed at enhancing competition

Governments have a range of anti-monopoly policies which they can use to improve economic efficiencyTaxes & subsidiesPrice controlsNationalisationPrivatisation & deregulationBreaking up the monopolistReducing entry barriers

Specification

Evaluate measures aimed at enhancing competition between firms and their impact on prices, output and market structure

Compare and evaluate the strengths and weaknesses of methods of regulation for example price capping, monitoring of prices and performance targets

Explain why governments may intervene to encourage competition, or prevent monopolies and mergers

Be aware of various types of private sector involvement in public sector organisations, including contracting out, competitive tendering and public private partnerships (PPP/PFI)Today’s Lesson

Regulation of privatised industries

Objectives for this lesson

Explain the difference between RPI-X and RPI+K and be

able to calculate the changes in price to the consumer

Understand the advantages of RPI-X and RPI+K

compared to other methods of regulation, such as rate of

return

Compare and contrast PPP and PFI

Explain the term Regulatory Capture

Introduction to privatisation

Privatisation is the sale of state owned assets to the private sector

Such industries tend to be natural monopolies with large fixed costs relative marginal costs, e.. Railways, gas, coal

A number of arguments have been used to justify privatisation including Lower costs of production Increased choice Quality and innovation Wider share ownership Reduction in state borrowing

and debt

Arguments against privatisation include concerns about Monopoly pricing increasing inequalities in society Increasing externalities

Privatised industries can still be monopolies!

Wherever possible, privatisation is also accompanied by measures to encourage competition

Where not possible, or feasible to encourage competition, regulation was seen as the solution

So instead of being under government control they came under government regulation

UK regulators

Each of the privatised industries has its own regulator:

Ofcom – TelecommunicationsOfgem – Gas and electricityOfwat – WaterORR – Rail

Their task is to ensure that no firm is able to abuse what monopoly powers it has to exploit customers

Methods of regulation

Different ways they can achieve this:Increasing competition Prohibiting anti-competitive practicesMonitoring pricing and price cappingSetting minimum investment levelsMonitoring performanceRate of return

Price capping / Price controls

Allow price increase each year at a rate set below the Retail Price Index:

RPI-X (X-inefficiency)The idea being that it forces companies to look

for productivity gains to eliminate x-inefficiencyThe X refers to the amount of productivity gain

that the regulator believes can be achieved, expressed in terms of the change in average costs.

E.g. if the regulator believes that it is possible to achieve productivity

gains of 5% per year, and of the RPI is increasing at a rate of 10% per

year, the max price increase allowed in a year would be 10%-5%=5%

Problem: how does the regulator know at what level to set ‘X’?

The company knows better than the regulator…information asymmetry

Company might reduce quality or neglect investment…

Price capping / Price controls

Force firms to undertake expensive investment:

RPI+K (Capital)K investment to bring up quality of serviceWater: bring standards up to EU level

Firms can keep any profits from efficiency gains that the regulator

has calculated as reasonable. Usually in place for 5 years enabling

firms to plan ahead.

Problem: if the regulator underestimates efficiency gains, then firms can be seen to

make excessive profits, often invested outside of the regulator’s remit.

Performance targets

E.g. railwaysTrains within 5 ins of

advertised arrivalTrains cancelled

WaterNumber of leaks stopped

Rate of return

The firm is limited on the rate of return it is permitted to make, thereby preventing it from making supernormal profits.

This too may affect the incentive mechanism: the firm may not feel the need to be as efficient as possible, or

it may waste profits on managerial perks to avoid declaring too high a

rate of return

Regulatory capture

A situation in which the industry regulator comes to represent its interests rather than regulating it

The regulator becomes so closely involved with the firm it is supposed to

regulate that it begins to champion its cause rather than impose tough rules

Objectives for this lesson

Explain the difference between RPI-X and RPI+K and be

able to calculate the changes in price to the consumer

Understand the advantages of RPI-X and RPI+K

compared to other methods of regulation, such as rate of

return

Compare and contrast PPP and PFI

Explain the term Regulatory Capture

Public Sector – Private sector engagement

Public Sector

Private Sector

Contracting out Competitive tendering

Private sector firms bid for business

Service or Venture

Public Sector – Private sector engagement

Public Sector Private Sector

Public Private Partnership (PPP) A Govt service or private venture is funded and operated through a

partnership

£

Service / Venture

E.g. PFI – Private Finance Initiative (launched in 1992)

The public sector outlines the services it requires

The private sector then delivers by itself or jointly and is allowed to charge a

return, e.g. a toll on a bridge, which is balanced

with social welfare

PFI deals signed as at Sept 2001

Includes channel

tunnel rail link

By March 2008 more than 600 projects worth

£60bln

N.B. As PFI switches focus toward efficiency and lower

costs –concerns raised over quality of service

Homework

Read article on Gas & electricity supplyComplete worksheet 37: Privatisation

Objectives for this lesson

Explain the difference between RPI-X and RPI+K and be

able to calculate the changes in price to the consumer

Understand the advantages of RPI-X and RPI+K

compared to other methods of regulation, such as rate of

return

Compare and contrast PPP and PFI

Explain the term Regulatory Capture

Plenary

Identify 3 ‘Anti-competitive’ practisesWhat govt policy approaches would you

suggest for each?