3.6.1 Government intervention in product markets

Question 1

What are the aims of competition policy?

Answer 1

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

Question 2

List what competition policy aims to ensure

Answer 2

• 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

Question 3

What are the main pillars of UK competition policy?

Answer 3

• Anti-trust & cartels:
  o Eliminating agreements that restrict competition including price-fixing by firms with a dominant
  market position
• Market liberalisation:
  o Introducing competition in previously monopolistic sectors such as energy supply, retail banking,
  postal services, mobile telecoms and air transport
• Merger control:
  o Investigation of mergers and take-overs which could result in firms dominating the market

Question 4

What is the CMA?

Answer 4

The Competition and Markets Authority (CMA) is the body given the power to investigate mergers and takeovers in
the UK and consider whether they should go ahead

Question 5

What is the aim of the CMA?

Answer 5

The aim of the CMA is to ensure that mergers do not lead to worse outcomes for consumers, for example,
through higher prices, lower quality or reduced choice

Question 6

Explain the actions that the CMA can take

Answer 6

1. The CMA has authority to examine mergers if the merged entity has a turnover of £70m or more, or controls
   25% or more of its market
2. They can block an acquisition if they find that the integration of two businesses will lead to a “significant
   lessening of competition” in one or more markets at local, regional or national level
3. They have the power to give a merger the go-ahead providing certain conditions are met – for example, the CMA may require the acquiring company to sell off part of its operations to reduce its market power. For example, the Cineworld / PictureHouse Merger (2013) was eventually cleared by the CMA after Cineworld sold three cinemas to the Light cinema chain

Question 7

What are examples of UK and EU merger policy in action?

Answer 7

• 2019 – the EU Competition Commission blocked the merger of Siemens and Alstom
• 2018 – the CMA investigated and cleared the acquisition by PepsiCo of Pipers Crisps
• 2018 – the CMA started an investigation into the proposed merger between Sainsbury’s and Asda
• 2018 – a university laundry merger was broken up by CMA to prevent a lessening of competition
• 2018 – a big merger in the UK energy sector between SSE/Npower was cleared after consultation
• 2017 – the takeover of the wholesaler Booker by retailer Tesco was cleared after an investigation
• 2017 – the CMA cleared Just Eat’s acquisition of HungryHouse in the web-based food delivery market

Question 8

What are ways for the govt to control monopolies?

Answer 8

Question 9

Draw a table of govt intervention to control monopolies giving reasons and evaluation

Answer 9

Question 10

What are regulators?

Answer 10

• They are appointed by the government to oversee how a market works and the outcomes in efficiency and
  welfare that result for producers and consumers.
• The main competition regulator in the UK is the Competition and Markets Authority (CMA).
• The CMA has responsibility for carrying out investigations into mergers, markets and the regulated industries
  and enforcing competition and consumer law.

Question 11

Give examples of regulators

Answer 11

Question 12

Draw a diagram to show the possible impact of a price cap on a firm with market/monopoly power.

Answer 12

A maximum price involves a normative judgement on behalf of the government / authorities about what that price
should be – it is designed to curb monopoly profit.

Question 13

Give chains of reasoning for capping the price of a monopoly.

Answer 13

Question 14

What are the advantages of price capping a monopoly?

Answer 14

1. Capping is an appropriate way to curtail the monopoly power of natural monopolies or dominant firms
   preventing them from making excessive profits at the expense of consumers
2. Cuts in the real price levels are good for household and industrial consumers (leading to an increase in
   consumer surplus and higher real living standards in the long run).
3. Price capping helps to stimulate improvements in productive efficiency because lower costs are needed to
   increase a producer’s profits.
4. The price capping system can be a tool for controlling consumer price inflation

Question 15

What are the disadvantages of price capping a monopoly?

Answer 15

1. Price caps have led to large numbers of job losses especially in the utility industries
2. Setting different price capping regimes for each industry distorts the working of the price mechanism
3. The industry regulator may not enough accurate information when setting the price caps for future years
4. Capping prices means lower profits which in turn can lead to reduced capital investment by the utility
   businesses – ultimately consumer suffer if there is under-investment in utility infrastructure such as water and
   energy

Question 16

How can the government promote competition and contestability through the deregulation of markets

Answer 16

• Attempts to liberalise a market to encourage new entrants to act as challengers to established firms
• Deregulation usually involves lowering some of the statutory barriers to entry to reduce the hurdles for new
  firms to enter and make at least normal profit
• A good example of deregulation / liberalisation in recent years has been the opening up of the UK parcels /
  letters market ending the legal monopoly of the Royal Mail. The Royal Mail has also been fully privatised after
  their part privatisation in 2013.
• The UK bus industry was also deregulated nearly thirty years ago and industries such as opticians and telecoms
  have also been the subject of deregulation

Question 18

What are the advantages of de regulation of markets?

Answer 18

1. Where deregulation and market liberalisation break down barriers to entry, market supply should expand,
   bringing down prices for consumers.
2. Increased competition and heightened contestability is strongly associated with improved productive
   efficiency, allocative efficiency and dynamic efficiency:
3. Competition limits firms’ ability to restrict output and raise prices. By forcing firms to charge a price closer to
   marginal cost, allocative efficiency is improved.
4. If firms have less pricing power they are more likely to seek profitability through cost reduction, boosting
   productive efficiency and reducing x-inefficiency.
5. Greater capital investment and productivity could lead to improved dynamic efficiency.

Question 19

Advantages of privatisation

Answer 19

1. Private companies have a profit incentive to cut costs and be more efficient and raise productivity
2. Government gains revenue from the sale of assets
3. 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
4. Privatisation can create a shareholder democracy i.e. greater share ownership

Question 20

Disadvantages of privatisation

Answer 20

1. Social objectives are given less importance
2. Some activities are best run by the state because they are strategic parts of the economy e.g. water supply,
   steel and railways
3. Government loses out on dividends from any future profits. Public sector assets often sold too cheaply
4. Shares are often bought / held by large institutions such as pension funds, insurance funds and others

Question 21

What is contracting out?

Answer 21

In recent years there has been strong growth in the number of private sector businesses that are used to provide
public services. For example, the running of prisons and social care homes might be out-sourced by central and local
government to private sector providers often after a tendering or bidding process has been held. This is known as
contracting-out.

Question 22

What is G4S as an outsourcing provider in the UK?

Answer 22

G4S is the world’s 3rd largest private-sector employer. It is one of the UK government’s largest providers of
services such as manned event security, cash transfer and security, monitoring prisoners and custodial &
detention services as part of the justice process

Question 23

Advantages of contracting out

Answer 23

• 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.

Question 24

Disadvantages of contracting out

Answer 24

• 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 e.g. low wages, poor conditions.
• Contracting-out / outsourcing requires proper monitoring which itself involves extra spending

Question 25

What is nationalisation?

Answer 25

the transfer of a major branch of industry or commerce from private to state ownership or control

Question 26

What are examples of nationalisation in the UK?

Answer 26

• Network Rail
• UK Nuclear Decommisioning Authority

Question 27

Advantages of nationalisation

Answer 27

1. Nationalized firms can target social objectives
2. Firms might charge lower prices – not focused on pure profit maximisation / extracting consumer surplus
3. Natural monopolies in the state sector can achieve economies of scale = gains in productive efficiency
4. Can be used as a vehicle for hitting macroeconomic aims such as keeping inflation under control

Question 28

Disadvantages of nationalisation

Answer 28

1. Absence of shareholder pressure might lead to diseconomies of scale and therefore higher prices
2. Lack of market competition can lead to X-inefficiency
3. Firms may lack an incentive to innovate – leading to a loss of dynamic efficiency
4. Losses of state-owned firms are absorbed by tax payers and can lead to higher budget deficits

Question 29

Advantages of rail nationalisation

Answer 29

1. Rail network is a natural monopoly suited to state control to achieve economies of scale
2. Rail fares can be controlled to improve affordability for rail passengers
3. Profits flow direct to the taxpayer rather than to shareholders of private train companies
4. State can direct investment into the network and borrow more cheaply to fund it

Question 30

Disadvantages of rail nationalisation

Answer 30

1. Competition on lines is more important than who owns the railways – therefore, allow more operators
2. Private sector firms are more likely to improve dynamic efficiency and avoid X-inefficiencies
3. Possible to regulate more fares on services run by private train operating companies
4. History of state-run railways in the UK (e.g. in 1970s and 1980s) was not always positive