Regulatory reform is designed to promote
competition, regardless of whether
the industry is in state
or private ownership. In principle it is a separate issue from
privatisation. Yet, in
practice, reform of government regulation of industries,
particularly state-owned
utilities such as electricity, gas and telecoms, has been
associated with the issue
of privatisation. For that reason we introduce the subject
at this stage of the
discussion.
Suppose a state-owned company exists in a
context where competition is not
apparently possible.
Economies of scale are so preponderant that it is not profitable
for more than one firm to
operate in the industry. This is the case of a
natural
monopoly. The state may still wish to privatise in the hope of securing a
change in the ‘managerial
culture’ of the organisation, or to add to government
revenues, even though the
privatised firm will continue to retain monopoly
power. How do costs and
benefits stack up in this instance? Clearly there are benefits from
privatisation, but these will be achieved only if there is also some state
regulation of the
privatised entity. How should the privatised monopoly be regulated?
The economics of
regulation now enter the picture.
Natural monopolies were until recently
regarded as dominant in the energy,
transport and telecoms
industries. In addition, private sector competitors were
often excluded by law from
trying to compete with the state monopoly in these
sectors. But banning
competitors would be redundant if economies of scale were
really that powerful, so
the existence of legal restrictions suggests that the
monopoly was not so
‘natural’ after all. When such is the case, one solution is to
remove the restrictions on
entry, subject to the new entrants satisfying some
basic minimum operating
criteria such as prudential reserve ratios, safety provisions,
and so on. Privatisation
can then proceed, though whether deregulation
comes before or succeeds
privatisation can have an important bearing on how
much revenue is obtained
from the sale.
Deregulation has been applied to many
industries in addition to those controlled
by state monopolies. Major
changes have been made in the rules governing
banks, stockbroking,
insurance, and radio and television broadcasting. These
initiatives were inspired
by belief in the merits of the free market. No less important
was technological change.
In some industries, it has made restrictions on
new entrants unenforceable;
in others it has made small production units more
efficient. For example,
technical advance has now made even very small electricity
generating plants more
efficient than previously. The combined effects of
deregulation and
technology have opened up many hitherto restricted markets.
The resultant increase in
contestability has brought about huge improvements in
efficiency.
However, there remain some important
sectors where the monopoly proves to
be genuinely ‘natural’ and
where consequently the degree of competition is
limited. There are two
major steps in dealing with the situation. The first step is
to break down or
‘unbundle’ the services provided by the monopoly into component
parts so as to isolate the
core natural monopoly element in the industry. In
electricity, for example,
the real monopoly element is not power generation or
power distribution but the
transport of electricity through a network. By
unbundling the industry
into its different potentially competitive and natural
monopoly components,
efficiencies can be secured through the market system.
The potentially
competitive parts can be sold to the private sector, or put into
competitive play by
out-contracting or competitive tendering.
The second step is how to deal with the natural
monopoly element. This
involves three
interrelated strands: pricing, access and quality of service. We
briefly review each of
these, recognising that the relevance of each aspect will
differ according to sector
and the period of time since the liberalisation process
was begun.
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