When competition prevails, firms have
limited discretion over price. Profit maximization leads them to equate
marginal cost to marginal revenue and, because
price is more
or less ‘given’ in a competitive market, price equals marginal revenue.
Also,
competition forces firms to minimise costs and to search relentlessly for new
and better
ways of doing things. Competition encourages innovation. For these
reasons, maintaining
a market structure that is open to competition is of the
utmost
importance to an efficient economy.
Our first task in this chapter is to assess
the case for competition and to define
the
characteristics of a market that encourages competition.
Our second task is to analyse competition
policy. Competition policy refers to
the rules
governing the conduct of firms in a market. Without well-developed
and effective
competition rules, the market system will not function properly. Yet
a competition
regime has to balance the need for active competition on the
domestic
market with the equally pressing need to allow firms to attain a
minimum
efficient scale and be able to match international competition. On
occasion, it
may make sense to tolerate, even encourage, high concentration
ratios in the
domestic market. The extension of competition policy to deal with
state aids to
industry, and particularly support for state-owned enterprises, is also
examined. We
illustrate these issues with examples from the competition policy
of the EU.
Third, the move to privatisation is
analysed. Starting in the 1980s in the UK
world economy.
‘New consensus’ thinking goes far to explaining the rapid spread
of these
privatisation programmes. They have been motivated by the desire to
introduce
competition where it was absent as well as assisting governments to
improve their
financial situation.
The degree of popular enthusiasm for
competition has waxed and waned.
Proponents of
competitive market structures are now in the ascendant. In order
to understand
why, we must understand the origin of this pro-competitive viewpoint.
It is not
necessarily pro-business, though it has coincided with a strongly
pro-business
trend in other areas of economic policy. Most businesses feel under
threat from competition. They are more likely to believe that
their problems
derive from
excess competition rather than an insufficiency of competition. They
argue for
space and time to adjust to the pace of technological advance and to
build up
competitive advantage. Getting the balance right between sectoral
strength and
optimal competitive pressure is vitally important for economic
performance.
The case for competition
Competition policy is based on a belief in
the economic benefits of competition.
The starting
assumption is that market forces are the most effective means of
ensuring
efficiency in the allocation of resources, of adapting to change and,
ultimately, of
maximising consumer welfare. A much-quoted passage from the
European
Commission’s first report on competition policy reflects this basic philosophy:
Competition is the best stimulant of
economic activity since it guarantees the widest possible freedom of action to
all. An active competition policy ... makes it easier for the demand and supply
structures continually to adjust to technological development.Through the
interplay of decentralised decision-making machinery, competition enables enterprises
continually to improve their efficiency, which is the sine qua non for a steady
improvement in living standards and employment prospects within the countries
of the Community. From this point of view, competition policy is an essential
means for satisfying to a great extent the individual and collective needs of
our society.
Competition has several major advantages
over monopoly .First,it provides static benefits through elimination of
deadweight losses illustrated in Figure 6.2. This figure shows how competition
can lead to more output at a lower price – and it accords with the practical
experience of falling prices and higher sales volumes that followed the
introduction of competition to formerly monopolized industries ranging from air
transport to telecoms. Estimates of the importance of this static effect vary
widely, but some have reached as high as 1 per cent of GDP._2 Second,
competition brings dynamic benefits:
- It makes organisations internally more efficient by
sharpening incentives to
avoid slackness.
-It allows the more efficient organisations to prosper at
the expense of the
inefficient .
- It improves dynamic efficiency by stimulating innovation.
The above arguments emphasise efficiency. Equity is another
important consideration in competition policy. Governments enforce competition
policy in order
to protect weaker companies against the abuse by monopolies
of their dominant
market position. Support for the free market presupposes
‘fair’ trading rules and a
level playing field. Defining ‘fairness’ is not, of course,
always easy. Moreover,
the dictates of fairness, efficiency and competition
sometimes pull in different
directions. Efficiency may require a more concentrated
industrial structure than a
government concerned with equity might want to tolerate.
Somehow, consistent
rules must be formulated which encourage competition and
allow business a
reasonable degree of certainty, but have enough flexibility
to deal with cases
where market power may be necessary on technical grounds.
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