13.2 - Competition & Monopolies
The aims of competition policy
Competition policy involves government actions to promote fair rivalry in markets, especially where high concentration leads to inefficiencies. It targets situations where dominant firms cause resource misallocation, such as charging prices above equilibrium, resulting in deadweight welfare loss and market failure.
The primary goals include safeguarding consumer interests by encouraging more efficient market operations. This helps ensure better resource allocation, lower prices, and greater choice for buyers.
How governments prevent monopolies from forming
Governments monitor markets to avoid the rise of unfair monopoly power, which can harm efficiency and consumers. Bodies like the UK's Competition and Markets Authority (CMA) and the European Commission oversee activities that might reduce competition.
Areas monitored to prevent monopolies
- Mergers and takeovers - These are reviewed to block deals that create excessive market share (e.g., over 25%) or too much dominance, ensuring they benefit overall efficiency and consumers.
- Agreements between firms - Anti-competitive practices, such as cartels or collusive oligopolies involving price fixing, market sharing, or production limits, are investigated as they lead to inefficiency and unfairness.
- Opening markets to competition - Previously government-controlled sectors, like transport services, are transitioned to private ownership while ensuring no single firm dominates as a private monopoly.
- Government financial support (European Commission focus) - Aid to firms in one EU country is checked to prevent unfair advantages over competitors in other EU nations.
Penalties include blocking mergers or imposing fines on firms engaging in anti-competitive behaviour.
The role of regulatory bodies
In markets with limited competition, such as monopolies or oligopolies, independent bodies oversee operations to maintain fairness and efficiency.
Responsibilities of regulatory bodies
- Price regulation - Setting limits on charges to protect consumers from excessive pricing.
- Safety and standards monitoring - Ensuring products and services meet required quality levels.
- Promoting competition - Encouraging new entrants and fair practices.
Examples of regulatory bodies
- OFWAT - Oversees the water industry.
- OFCOM - Manages communication sectors.
- OFGEM - Regulates gas and electricity markets.
These bodies can face risks like regulatory capture, where regulated firms influence decisions unduly.
Methods of government intervention to increase competition
Governments use various strategies to boost rivalry, reduce monopoly power, and improve market efficiency. These approaches aim to lower barriers, control dominant firms, and support diverse market players.
Privatisation to introduce competition
Transferring public monopolies to private ownership can expose them to market forces. However, without additional measures, this might create private monopolies with higher prices and lower output. Combining privatisation with other interventions, like deregulation, helps protect consumers and increase competition.
Regulation to control monopoly power
Rules are imposed to limit dominance and ensure fairness, often in utility sectors.
Price caps as a regulatory tool
Price caps restrict maximum price increases, promoting fairness and efficiency.
Where:
- RPI = Retail price index (measure of inflation)
- X = Expected efficiency gains by the firm
For example, if RPI is 4% and X is 2%, prices can rise by up to 2%. This forces real price reductions and incentivises efficiency, benefiting consumers with better services.
In the water industry, RPI + K allows higher prices to fund investments (K represents required capital for improvements).
Other regulatory methods:
- Monitoring prices for reasonableness
- Enforcing quality standards (e.g., in food or construction)
- Applying windfall taxes on excessive profits to curb power while potentially reducing efficiency incentives
Performance targets in regulation
Targets set standards, such as customer service levels or treatment numbers in the NHS, with penalties like fines for non-compliance. Drawbacks include neglecting non-targeted areas, like safety or quality.
Deregulation to enhance contestability
Reducing rules makes markets more accessible for new entrants, lowering prices toward marginal cost and increasing output. It is often paired with privatisation to prevent public monopolies from becoming private ones.
Promoting small businesses
Support for smaller firms increases overall competition through tax breaks, subsidies, or easier access to funding. Cutting regulations and administrative burdens also aids startups, leading to more consumer choice and reduced prices.
Examples of intervention in specific markets
Payment protection insurance (PPI):
- PPI covers debt repayments during issues like illness. The UK market lacked competition, with high claim rejections and mis-selling.
- The CMA investigated and mandated requirements like clear cancellation rights and cost information to prevent mis-selling, inform consumers, and boost rivalry.
- This led to more competition and higher successful reclaims.
Mobile phone roaming charges:
- These fees for overseas data, calls, or texts were excessively high due to low competition.
- The European Commission introduced price caps since 2007, reducing charges significantly.
- Providers must comply but can undercut caps to compete, applying across EU member states.
The effectiveness of competition policy
Competition policy is typically viewed as beneficial, improving efficiency, resource allocation, and consumer fairness when based on reliable information. However, imperfect data can lead to government failure.
Implementation costs exist, but benefits usually outweigh them. If costs exceed benefits, it represents government failure. Effectiveness depends on accurate market insights for bodies like the CMA or European Commission to identify anti-competitive practices.