3.8.7 - Competition Policy

Question 1

What are the two important factors to remember about perfect competition?

Answer 1

• In the absence of economies of scale, perfect competition would be more productively and allocatively efficient that monopoly
• The ‘consumer is king’ and consumer sovereignty rules

Question 2

What is competition policy?

Answer 2

The part of the government’s microeconomic policy which aims to make goods markets more competitive.

Compromises policy towards monopoly, mergers and restrictive trading practices.

Question 3

What is the overarching theme of competition policy?

Answer 3

To make imperfectly and monopolistic markets more competitive.

Question 4

What are the individual aims of competition policy?

Answer 4

• Preventing the exploitation of monopoly power
• Reducing costs of productions
• Improving efficiency
• Removing excessive profit
• Removing entry and exit barriers between markets

Question 5

What are the two situations which competition policy recognises monopolies are advantagous relative to small firms?

Answer 5

When the size of the market is limited but economies of scale are possible, monopolies can produce at a lower average cost than smaller and more competitive firms.

Firms with monopoly power may be more innovative than firms that are not protected by entry barriers at which point monopolies become more dynamically efficient that competitive firms.

Question 6

What are the three sections of competition policy?

Answer 6

Monopoly
Mergers
Restrictive Trading Practices

Question 7

What is the CMA?

Answer 7

The Competition and Markets Authority is the government agency responsible for advising and implementing UK competition policy.

Question 8

What does the CMA investigate?

Answer 8

Pure monopolies (of which there are few, if any)
Mergers which may cause monopolies to emerge

Question 9

What is the UK policy on approaching monopoly regulation?

Answer 9

Case-by-case basis.

Cost-benefit analysis
If the costs of monopoly power:
* are greater than the benefits of a more competitive market, then monopoly should be prevented.
* are less than the benefits of a more competitive market, then monopoly should be permitted.

Question 10

How does the CMA scan the UK economy for monopoly abuse?

Answer 10

Market structure, conduct and performance indicators.

Question 11

What do concentration ratios do?

Answer 11

Provide evidence of monopolistic market structures.

Question 12

What do market conduct indicators do?

Answer 12

Consumer and trade complaints to track and monitor anti-competitive business behaviour.

Question 13

How does the CMA decide whether or not to launch an official investigation into a firm?

Answer 13

Using competition-based tests.

If any features of the market prevent. restrict or distort competition.

Question 14

Why have few mergers and firms been investigated by the CMA?

Answer 14

The possibility of a CMA investigation is sufficient incentive for large firms to behave well.

Question 15

How else COULD the CMA deal with the problems of monopoly?

Answer 15

• Monopoly busting
• Price controls
• Taxation on monopoly profits
• Rate of return regulation
• Monopoly state ownership
• Privatising monopolies
• Government deregulation

Question 16

What is monopoly busting?

Answer 16

The compulsory breaking up for all monopolies.

Question 17

Why would the CMA consider monopoly busting a valid method to solve the problem of monopoly?

Answer 17

Free-market economists argue that the advantages of comptitive markets (economic efficiency, consumer sovereignty etc.) can only be achieved when the economy is perfectly competitive.

Therefore, all monopolies are inherently bad, and should be broken up through legislation.

Question 18

Why would the CMA consider price controls a valid method to solve the problem of monopoly?

Answer 18

Setting a maximum price that monopolies can charge for goods would theoreticaly remove all monopoly profit and therefore disincentivise monopolies.

Question 19

Why would the CMA consider monopoly profit taxation a valid method to solve the problem of monopoly?

Answer 19

‘Windfall’ taxation due to monopoly profits would both allow monopolies to continue and generate more revenue for public services.

This has been implemented in the past such as in the late 1990’s in which the Labour government imposed a windfall tax on privatised utilities.

Question 20

Why would the CMA consider rate of return regulation a valid method to solve the problem of monopoly?

Answer 20

Setting a price cap relative to costs would mean firms are fined if prices are set too high.

Instead of increasing productive efficiency, this often has the opposite effect as there is the unintended consequence of indirectly encouraging monopolies to increase costs to raise prices without going over the rate of return price cap.

The higher costs are the result of a productively inefficient usage of resources, allowing managers to have an easier life.

Monopolies are the most likely of all the market structures to allow costs to rise as they have high barriers to entry.

Question 21

Why would the CMA consider state ownership of monopoly a valid method to solve the problem of monopoly?

+argument against

Answer 21

When firms are nationalised, it can be assumed that they no longer have to chase profit and therefore operate in the public interest.

However, free market economists argue that nationalised firms are economically inefficient, stemming from the belief that there is a general inefficiency and resistance to change as workers and management always believe they will be bailed out by the government. There is a principal-agent problem within nationalised industries as there is no economic incentive for workers to maximise profit and productivity. Along with this, there is an element of moral hazard as the nationalised firm is insured against their own losses due to government bailout. Management will likely not concern themselves with profit maximisation as a result.

Exposing the monopoly to the free market will expose the firm to the threat of takeover and discipline of the competitive market.

Question 22

Why would the CMA consider market deregulation a valid method to solve the problem of monopoly?

Answer 22

Deregulation removes artificial barriers to entry, so should allow other firms to enter the market and make it more competitive.

Two regulatory bodies have been set up in this vain:
Ofcom and Ofgem (telecommunication and gas/electricity respectively)

Question 23

What is ‘merger policy’ and what does it cover?

Answer 23

Acquisition of firms, both friendly and hostile.

Question 24

Why do mergers find themselves under investigation?

Answer 24

If they are expected to lead to a substantial lessening of competition (SLC).

Question 25

How can restrictive trading practices be divided?

Answer 25

Independent firms
Collective restrictive practices between two or more firms

Question 26

What is a common example of a restrictive trading practice?

Answer 26

Cartel agreements in oligopolies.

Question 27

Who deals with independent and collective restricting trading practices?

Answer 27

The CMA.

Question 28

How does the CMA deal with restrictive trading practices?

Answer 28

The firms involved are asked to drop the practice or prove it is in the public interest.

Question 29

What does the restriction of output and raising prices due to monopoly lead to?

Answer 29

Net welfare loss.

Consumer surplus is transferred into producer surplus and monopoly profit.