Government Regulation

• What do regulators need to understand for effective profit regulation?

  Costs and rates of return in the industry
• Why do regulators set quality standards?

  To ensure monopolists do not compromise quality
• How do monopolists resist quality standards?

  By lobbying to weaken compliance costs
• What are performance targets in regulation?

  Targets set for various outputs from firms
• How might monopolists manipulate performance targets?

  By changing timetables to improve punctuality
• What does the ORR do in the railway industry?

  Sets performance targets for Network Rail
• What is the role of Ofwat in the water industry?

  Regulates prices based on RPI+k rule
• What is regulatory capture?

  When regulators become too close to firms
• What does the rate of return method involve?

  Setting a maximum profit level for monopolists
• How does the rate of return method work?

  Limits profit based on total costs incurred
• What is a disadvantage of the rate of return method?

  No incentive to make efficiency gains
• Why might firms overstate their capital value?

  To increase costs and retain more profit
• What is a potential problem with fines imposed on monopolists?

  They may cut costs, harming service quality
• What are some arguments against regulation?

  It incurs costs and can be inefficient
• How can differences in regulatory regimes affect market performance?

  They can weaken share performance in industries
• What is the impact of price capping on efficiency?

  It may generate improved efficiency over time
• What is a challenge with the pricing capping period?

  It needs to balance investment and consumer protection
• What are the methods of government intervention to control monopolies?

  Price regulation, profit regulation, quality standards
• Why is encouraging competition within industries beneficial?

  It ensures efficiency improvements
• Why is it difficult to encourage competition in some industries?

  Due to economies of scale favoring few firms
• What is a natural monopoly?

  Industries where competition is not feasible
• Which industries are monitored by regulatory bodies?

  Water, gas, electricity, rail, telecommunications
• What are the three types of regulatory methods implemented by regulatory bodies?

  Price-capping, rate of return, performance targets
• What is maximum pricing in price regulation?

  Setting a maximum price equal to allocative efficiency
• What is a criticism of price controls?

  Government may not know cost and revenue curves
• What is the RPI-X rule in price capping?

  Price increases below changes in retail price index
• What happens if X is set too high in the RPI-X rule?

  It reduces investment by the regulated firm
• What is the risk of regulatory capture?

  Regulators may become too lenient on firms
• How does asymmetric information affect regulation?

  Firms may misrepresent costs to regulators
• What is the long-term challenge of maintaining price caps?

  Wholesale prices may rise above price caps
• How might strict RPI-X regulations affect R&D?

  It may reduce R&D due to lower profits