Careers: Business/Managerial Economics
How does Government control monopoly?
Q-6) a) How does Government control monopoly?
regulation of monopoly and competition policy
What is regulation?
Rules set by government or their agencies that seek to control the operation of firms who may have monopoly power in their own industry
Regulation is designed to deal with the problem of market failure where markets fail to reach an optimal allocation of resources
Monopoly power may lead to consumers being exploited (i.e. prices charged above the true marginal cost of supply) leading to excess profits being made by suppliers in the market
In terms of regulation of monopoly the government attempts to prevent operations that are against the public interest so called anti-competitive practices
Regulation and the Structure of the market
Problems occur when the market structure in a given industry becomes monopolistic e.g. if a merger or a take-over causes a firm to supply more than 25% of the market output (defined as a working monopoly). Mergers are investigated by the Competition Commission.
Oligopolies can also lead to market failure particularly if there is evidence of collusive behaviour by the dominant businesses within an industry
The Competition Commission
The Competition is a public body established by the Competition Act 1998. Formerly known as the Monopolies and Mergers Commission, it came into being on 1st April 1999
The Competition Commission has two main roles
1. Reporting on referrals made by the Director General of Fair Trading, the DTI and the main utility regulators
2. Hearing appeals against prohibitions under the Competition Act 1998
European Competition Law
Articles 81 and 82 of the Treaty of Rome prohibits certain market practices deemed to be anti-competitive and which act against the interests of consumers:
1. Article 81 prohibits acts which damage competitiveness in a market
2. Article 82 prohibits the abuse of a dominant position
New legislation comes into force from 1st March 2000 and the Competition Commission will hear appeals against decisions made by regulators. Regulators and DGFT will carry out the prohibitions. Regulators have the power to enforce prohibitions and to impose fines of up to 10% of turnover
These fall into two main categories
fixing purchasing and selling prices
limiting production, technical development, investment
sharing markets or supply sources
applying different trading conditions to equivalent transactions
Abuse of dominant market position
normally where a firm has over 40% of the market
imposing unfair purchasing or selling prices
Referrals to the Competition Commission
A last ditch effort if the Director General of Fair Trading cannot remedy the problems
Tends to follow the merger business cycle (very strong at the moment!)
Agreement can be reached to rectify the offending area of conflict
ITV companies were requested to reduce advertising sales contracts down
BSkyB were refused the purchase of Man. Utd.
Regulating the Privatised Utilities
British Gas privatised in 1986
Creation of private utility company with substantial monopoly power
Creation of Office of Gas Supply (OFGAS)
Gas release programme to require BG to sell to other shippers at a price determined by BGs costs (1992)
BG monopoly over supply below 25000 therms reduced to 2500 giving access to the domestic market for other suppliers (1992)
Divestment of vertically integrated businesses encouraged and happened in 1997 with the creation of Transco (pipeline) and Centrica (supply)
Expansion of competition for gas supply into the domestic market
Price regulation for Gas
BG is only allowed to increase its prices in line with a complex formula - the current restriction expires on 31st March 2000. In the autumn of 1999, BG announced it was scrapping standing charges for household gas users.
� prices can go up if the RPI increases but only by a fraction of this
� prices can go up in line with gas costs, minus a factor
� prices can go up in line with costs of improvement in energy efficiency
� This kind of restriction is known as an RPI-X formula
Overall competition in the gas supply market is developing well.
96% of customers are aware of their ability to choose an alternative gas supplier
25% of customers have switched gas supplier but over 75% of households have remained with their original gas supplier
The level of customer switching is continuing at about 32,000 per week
The number of rival suppliers to BGT is well in excess of that required for competition
Discounts of up to 20% compared to BGTs tariffs available.
Increasingly the gas and electricity supply markets are being characterised by dual fuel offers, with almost half of electricity and gas switchers supplied on dual fuel contracts.
Ofgem (led by Callum McCarthy) remains concerned about the barriers to entry in the electricity supply market, many of which it plans to address over the next eighteen months. However the job of the regulator is changing away from monitoring the performance of the single privatised utility towards assessing the performance of a competitive market as a whole.
Reasons for low rate of switching
Process required to switch supplier may be too difficult or complicated
Difficult for consumers to get hold of easy to understand, unbiased price comparisons?
Potential switchers are discouraged by stories about misselling, involuntary switching or double billing
Stephen Byers, Secretary of State at the DTI (November 1999)
"The Government's policies are designed to put more power in the hands of consumers. For energy competition to work properly, markets must be genuinely open with strong, well-informed customers. We have already secured for the UK the most open energy markets in the world. Five million households have switched gas supplier, saving around �65 each, while in electricity, four million have switched, saving around �20 a year each.
British Telecom was privatised in 1984 although Mercury had been granted a licence in 1982 and began operating in 1983. The industry regulator OFTEL was established at the same time. Initial regulation was a pricing formula of RPI-X, where X = 3% for the first 5 years
Competition was also encouraged with other operators e.g. in 1985 - Cellnet and Vodafone
Began at RPI - 3%
1988 moved to RPI - 4.5%
1991 increased to RPI - 6.25%
1993 raised to RPI- 7%
Erosion of the duopoly between BT and Mercury - by 1996 there were over 100 local cable operators and18 fixed link operators such as Energis and Ionica
Mobile telephone operators are now bidding for 5 new transmission licences
Developments in the market for telecommunications
Average UK telecoms prices have fallen almost 50% in real terms in the last ten years and competition has fostered the development and introduction of new services
Telecommunications regulation is now being rolled back where competition has provided consumer protection
OFTEL will no longer promote competition where it considers the market is competitive
In markets where competition is not effective OFTEL will continue to promote competition
Grateful acknowledgement is given to Roger Loxley from the Royal Grammar school, Newcastle, in the preparation of these revision notes on monopoly regulation