3.6 - Government Intervention Flashcards
Competition and Markets Authority (CMA)
Works to promote competition for the benefit of consumers and investigate mergers and breaches of UK and EU competition law, they enforce consumer protection law and bring criminal cases against individuals who participate in cartels. They are able to impose financial penalties, prevent mergers taking place and force businesses to reverse actions already taken
Competition and Markets Authority controlling mergers
- A merger is investigated if it will result in market share greater than 25% or if it meets the turnover test of a combined turnover of £70 million or more
- Aim of preventing two large companies merging is so they do not exploit their customers by raising price, offering poorer quality service and reducing choice
- Problem is that very few mergers are investigated each year. The CMA can suffer from regulatory capture and may not have all the information necessary to make a decision
Types of government intervention to control monopolies
- Price regulation
- Profit regulation
- Quality standards
- Performance targets
Competition and Markets Authority using price regulation to control monopolies
Regulators can set price controls to force monopolists to charge a price below profit maximising price, using the RPI-X formula. Gives an incentive for firms to be as efficient as possible as if they can lower costs by more than X they will enjoy increased profit. It prevents excessive prices and ensures that gains are passed onto the consumer, but difficult to know where to set X due to rapid technology improvements and asymmetric information
RPI-X
Form of price regulation used to control prices in industries with limited competition, such as utilities (e.g., water, electricity, and rail transport). It allows firms to increase their prices in line with inflation (measured by the Retail Price Index) but forces them to reduce prices by an efficiency factor (X), which represents expected efficiency improvements
Competition and Markets Authority using profit regulation to control monopolies
Aims to encourage investment and prevents firms from setting high prices. However, it gives firms an incentive to employ too much capital in order to increase their profits
Competition and Markets Authority using quality standards to control monopolies
Monopolists will only produce high quality goods if this is the best way to maximise profits. The government can introduce quality standards, which will ensure that firms do not exploit their customers by offering poor quality
Competition and Markets Authority using performance targets to control monopolies
They could set targets over price, quality, consumer choice and costs of production. It will help firms to improve their service and lead to gains for customers. Problem is that firms will resist the introduction of targets
Ways to promote competition and contestability
- Promotion of small businesses
- Deregulation
- Competitive tendering
Promotion of small businesses to promote competition and contestability
Government can give training and grants to new entrepreneurs and encourage small businesses through tax incentives or subsidies . This will increase competition since there will be more firms within the market, and will offer a chance for more firms to join, which will increase innovation and efficiency
Deregulation to promote competition and contestability
Removal of legal barriers to entry to a previously protected market to allow private enterprises to compete. This will increase efficiency in the market by allowing greater competition as more firms can enter and conduct more activities than they could before. However, can lead to poor business behaviour
Competitive tendering to promote competition and contestability
Competition can be introduced into the market as the government will request competitive tenders by drawing up a specification for the good or service and inviting private firms to bid for the contract to deliver it. The firm offering the lowest price wins the contract, subject to quality guarantees. This helps to minimise costs for the government and ensures efficiency
Restrictions on monopsony power to protect employees
- Government can pass anti-monopsony laws which make certain practices illegal and can introduce an independent regulator who will force monopsonists to buy fairly
- Government can protect employees through health and safety laws, employment contracts, redundancy processes, maximum hours at work and the right to be in a trade union.
Restrictions on monopsony power to protect suppliers
Fines can be put in place for those who exploit their power and minimum prices may be introduced to ensure suppliers are paid a fair amount. Self-regulation can also be used, but this is weak
Privatisation
Sale of government equity in nationalised industries or other firms to private investors. The aim is to revitalise inefficient industries but can sometimes lead to higher prices and poor services
Nationalisation
When a private sector company or industry is brought under state control, to be owned and managed by the government
Advantages of privatisation
- Encourages greater competition, which reduces X-inefficiency and ensures low prices and high quality as firms realise they need to be competitive
- Reduces government interference which means that firms can invest with greater certainty instead of worrying about change when a government is elected every 5 years
- Puts utilities into the hands of the people , since they can own shares. Workers will be more motivated as they know their hard-work will be rewarded by high dividends
Disadvantages of privatisation
- Natural monopolies could abuse their monopoly position
- Problems over externalities and inequality
- Argued that industries such as electricity, water and transport are important because they directly affect the success of other industries, and so therefore it makes more sense for the government to own them in order to coordinate them properly
Advantages of nationalisation
- Better for a monopoly to be run by the state as they aim to maximise social welfare rather than a private business who will maximise profits
- Government will consider externalities
- Government will guarantee a minimum level of service for people who suffer the risk of being cut off from the service due to the lack of potential profit from providing for them
Disadvantages of nationalisation
- Nationalised industries suffer from the principal-agent problem and moral hazard, as managers know that any loss they make will be covered by the government
- Will experience X-inefficiency and this could cause higher prices for consumers, especially since the industry will become a monopoly
- Will be influenced by government’s decisions and the government may not have enough money to invest
Positive and negative impacts of government intervention
- Can prevent monopolies charging excessive prices and aim to limit their profit. They try to ensure that consumers pay fair prices, receive a good quality service and have a lot of choice but high regulation may force some firms out of the industry, which would reduce choice
- Can increase efficiency in a market by increasing competition and contestability. However, if the government regulates too strongly, they can push costs up, leading to inefficiency
- A public sector business is likely to be allocatively efficient, as they aim to maximise social welfare. Also they will see lower costs due to economies of scale. However, the government may suffer from X-inefficiency as they have no incentive to be efficient due to the lack of competition
Limits of government intervention
- Regulatory capture
- Asymmetric information
Regulatory capture as a limit of government intervention
Large corporations can invest huge amounts in learning how to play the system and in gaining the support of their regulator. It also is likely that the regulator will have worked in the sector for many years, as these people will have experience and knowledge of the industry. As a result, they will have personal connections with those that they are regulating and this makes it difficult for them to be unbiased
Asymmetric information as a limit of government intervention
Government failure may occur if regulation such as RPI-X or quality standards are not set correctly. The government will be unable to regulate the companies accurately
