8.13. Promoting Competition through Deregulation

Public utilities usually operate as monopolies. In the absence of competition, government regulatory agencies were created to establish rates and super­vise services.

Until recently, government also regulated industries in which some competition existed. It did this because: 1) those firms performed an essential pub­lic service, 2) there were so few competing firms within those industries that collusion was a possibil­ity, or 3) regulation was a way to ensure that the public received reliable and safe service at a reason­able price. Industries falling into those categories included transportation (railroads, trucking, and airline), banking, and Pharmaceuticals.

Regulatory agencies have provided such benefits to the public as safer drugs, less deceptive advertising, and cleaner air. However, rules and regulations add to the cost of doing business and result in higher prices. Consequently,

• living standards are reduced,

• American companies find it more difficult to com­pete

with unregulated foreign firms, and

• jobs are lost as American companies either go out

of business or move their operations overseas.

The Railway Regulatory Reform Act of 1976 marked the beginning of a major effort to deregulate American industry. Since that time additional legis­lation has led to the deregulation of the airlines, trucking, banking, long distance telephone lines, and other industries.

Deregulation often results in more competi­tion, lower prices, and agreater variety of services. Before deregulation, for example, consumers could choose any telephone they wanted-as long as it was rotary operated and black. Competition has meant an entirely new gen­eration of colors and styles of hand sets and tele­phone services.

Sometimes, however, deregulation has had less sat­isfactory results. For example, people living in smaller towns often found themselves without either rail or airline services, so their travel costs dramati­cally increased.

Reading for Enrichmen

Barriers to Entry in the Cable TV Industry

Does your family have cable TV service? If it does, then you are probably doing business with a legal monopoly. You also know that there is no point in shopping around for the best buy, because there is probably only one company offering cable TV ser­vices in your area.

Before 1986 cable TV prices were set by public commissions, much the same as utility rates. That year, however, Congress deregulated the industry. This allowed local cable companies to set their own rates. Since cable companies have monopolies in 99.5% of the nation's cities, it is no surprise that cable TV prices have been increasing. In fact, since 1986 cable bills jumped 61 percent. As a result of these increases, in the spring of 1993 the Federal Communications Commission stepped in and forced cable companies to reduce their rates. Nevertheless, cable companies continue to operate as monopolies in most communities.

Barriers to entry into the cable TV market helped create monopolies in that industry. Meanwhile, cable companies and the firms that sell them pro­gramming have invested in each other to maintain their control. For example, the nation's largest cable company is part owner of TNT and the Discovery Channel; the second-largest company owns HBO and CineMax.

Leveraged Buyouts

In the 1980s, the financial community developed a highly controversial, but effective tool for acquiring companies called leveraged buyouts (LBOs). The strategy resulted in the takeover of several thou­sand firms.

Leveraged buyouts involve using borrowed funds to finance the purchase of a company. Security for the loan comes from the assets of the acquired corpora­tion. One of the most famous of the leveraged buy­outs enabled R. J. Reynolds to acquire Nabisco. The $25 billion deal was largely financed through the sale of bonds.

To attract investors, LBO promoters offered high rates of interest. This was risky. If payments couldn't be met, the company could go bankrupt. Such risky bonds were called junk bonds.

Leveraged buyouts are controversial. Those favor­ing the strategy argue that loading corporations with debt forced them to eliminate wasteful proce­dures and operations, or face bankruptcy. This made them more competitive.

Critics argue that the only real purpose of lever­aged buyouts has been to make money for the pro­moters. In addition, in too many instances, debt from an LBO forced companies into bankruptcy and added thousands to the unemployment rolls.

Joan Robinson (1903-1983) Leader in the Theory of Imperfect Competition

Joan Robinson taught econom­ics at England's Cambridge University for more than 40 years. Her book, The Economics ofImperfect Competition (1933), gained her fame as one of the world's foremost economists.

Economists of the 1930s like Alfred Marshall (see Chapter 3), based their theo­ries on the concepts of perfect competition and monopoly. But perfect competition, with its many buyers and sellers, rarely occurred. Nor did perfect monopoly, where buyers must pay a price selected by the monopolist. What usually happened was something in between these extremes. Professor Robinson referred to this kind of trade as imperfect competition.

Robinson's imperfect competition described markets in which sellers had more freedom to determine prices than they have under perfect competition, but less than they have under pure monopoly. They had this freedom either because their products were sold under conditions of monopolistic compe­tition, or oligopoly.

Joan Robinson regarded imperfect competition as a major weakness of capitalism. She said that busi­nesses earn high returns by commanding a higher price than they might under perfect competition, while consumers have to find ways to do with less. Meanwhile, the economy operates at levels under its capacity to employ workers and produce goods and services. Conditions of underproduction and unemployment, she said, lead to periodic reces­sions and political unrest.

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