Market Dominance and Government Intervention

• Governments may intervene in markets via the following measures:

  • Marginal Cost Pricing
  • Average Cost Pricing
  • Anti-Trust Laws
  • Market Liberalisation
  • Nationalisation
  • Windfall / Lump-Sum Taxes
• MC pricing requires the monopolist to charge a price which is equal to MC and hence produce at the allocative efficient level of output. This results in lower prices and higher output levels.
• In a natural monopoly, where LRAC falls over the entire range of the market demand, MC pricing would cause the firms to make subnormal profit. Hence, the government would have to:

  • Subsidise the firm for them to carry on production
  • Allow the monopoly to implement a multi-part tariff
• In an artificial monopoly, MC pricing would result in a more equitable distribution of income as the markup of P over MC is reduced.
• AC pricing requires the monopolist to charge a price which is equal to AC.
• In a natural monopoly, where LRAC falls over the entire range of the market demand, AC pricing brings the output closer to but not at the allocatively efficient level, whereas in an artificial monopoly, AC pricing overshoots the allocatively efficient level.
• MC and AC pricing brings about these few problems:

  • Asymmetric Information
  • Distortion of Incentives / Unintended Consequences
• Anti-competitive behaviour among firms include:

  • Price fixing
  • Mergers and Acquisitions
  • Predatory Pricing
• Anti-trust laws are emplaced to:

  • Prohibit anti-competitive practices
  • Break up monopolies into smaller independent units

  In turn increasing competition, and increasing prices and output
• Market liberalisation is the process of removing or relaxing government restrictions and regulations that prevent new firms from easily entering a market.
• Improving market contestability would result in a more price elastic demand for firms, as the availiability of substitutes increases.
• Anti-trust laws bring such problems as:

  • Difficulty in proving that firms are colluding or are engaging in anti-competitive practices
  • Restrict firms' scale of operation, thus reducing IEOS
• Nationalisation is the acquisition of private companies by the public sector. Nationalised industries are basically part of government production which covers private good provision in the market.
• Nationalised industries, operating in the public interest, would want to produced at lower prices and higher output in order to reduce allocative inefficiency.
• Flaws of Nationalisation:

  • Inefficiency of SOEs
  • Cost to the government's budget
• If the government wishes to tackle the problem of excessive monopoly profits, it can impose a lump-sum tax on the monopolist.
• Flaws of Lump-Sum Taxes:

  • Asymmetric Information
  • Reduction in dynamic efficiency
  • Does not improve allocative efficiency