Market Structures (Edexcel A Level Economics A)

With reference to Extract B, assess how the regulation of energy suppliers’ profits is likely to affect consumers and suppliers in the energy market (10 marks) 

Extract B

Proposals to regulate profits in the UK energy market

Currently energy retail companies make an average profit of 7% of total revenue. The Chairman of the Competition and Markets Authority (CMA) suggested that these profits are as much as five times higher than they should be, given the companies’ limited role in marketing, metering and billing customers. He recommended a profit cap of 1.25% of total revenue. However, Scottish Power criticised proposals for regulating profits saying that it would reduce investment in the energy industry and undermine long-term energy provision. The firm claimed that such a low rate of return is below the profit margin made by supermarkets. All six large energy firms are vertically integrated – producing as well as distributing gas and electricity. This can provide efficiency benefits but also harm competition.

(Source: adapted from ‘Profit cap doesn’t fit with new investment, energy boss warns’, by Robin Pagnamenta, The Times, 19th September 2016)

According to the Royal Mail, more hair and beauty salons opened on UK high streets last year than any other type of independent business, with a net increase of 10%, representing 626 new salons.

(Source:  adapted  from https://www.theguardian.com/small-business-network/2016/nov/18/ beauty-boom-or-bust-uk-too-many-salons)

Draw a cost and revenue diagram to show the long-run equilibrium of a firm in monopolistic competition.

Refer Extract

With reference to Figure 1, briefly explain the market structure that best describes the UK branded coffee shop market.

Read Extract

With reference to Figure 1 and Extract A, explain one likely reason for the change in the four-firm concentration ratio of the supermarket sector between 2010 and 2015.

Read Extract

With reference to Figure 1 and Extract A, explain one likely reason for the change in the four-firm concentration ratio of the supermarket sector between 2010 and 2015.

Markets for food and drinks high in fat, salt or sugar (HFSS)

Figure 1: UK market share of potato crisps, 2017

(Source: adapted from https://academic.oup.com/restud/article/3108825/ The-Effects-of-Banning-Advertising-in-Junk-Food 6 April 2017)

Extract A

The effects of a total ban on advertising of HFSS foods

Food and drinks which are high in fat, salt or sugar (HFSS) tend to be sold in highly concentrated markets. Tough new rules banning advertisements for HFSS products, such as those for confectionery, fizzy drinks and potato crisps, come into effect in July 2017 as a means to reduce consumption. The rules apply to media targeted at under-16s and will mean a major reduction in the number of advertisements children see for HFSS products in posters near schools, in films targeted at children, on catch-up television and in social media if it is directed at children. There are three main factors that will determine the effectiveness of the intervention: first, whether advertising acts to expand the market share or steal rivals’ market share. Secondly, how firms in the market adapt their behaviour in response to the ban. Thirdly, what substitute products do consumers turn to if they opted out of the targeted market. Results from a recent survey in the UK suggest that the total quantity of crisps sold would fall by around 15% in the presence of an advertising ban, or by 10% if firms respond with price cuts, since the ban acts to make the market more competitive and firms respond to the ban by, on average, lowering their prices. The survey showed that following a ban, consumers are more likely to switch to another junk food than to a healthy food, which (in addition to the pricing response of firms) acts to partially offset any health gains from the policy.

(Source: adapted from The Effects of Banning Advertising in Junk Food Markets, Dubois, Pierre; Griffith, Rachel, Review of Economic Studies Copyright © 2017, Oxford University Press https://academic.oup.com/ restud/article/3108825/The-Effects-of-Banning-Advertising-in-Junk-Food 6 April 2017 and https://www.asa.org.uk/news/tougher-new-food-anddrink- rules-come-into-effect-in-children-s-media.html 30 June 2017)

With reference to Figure 1 and Extract A, explain what is meant by a ‘highly concentrated’ market for potato crisps (Extract A, lines 2–3).

In July 2016 Apple’s share of the UK market for smartphones was 38%.

Evaluate whether such a high market share for one company is in the consumer interest. Use appropriate diagrammatic analysis in your answer (25)

With reference to Extract A, paragraph 3, discuss whether the rail network can be considered to be a natural monopoly (12)

Extract A

The case for nationalisation

Privatisation has not made the rail industry cheaper to operate, despite the promise from one government source that it would see private companies bringing: “more competition, greater efficiency and a wider choice of services”.

One reason, suggest the critics, is fragmentation. Instead of pushing British Rail into the private sector as a single supplier the government chose to break it into three components of track, train operators and rolling stock i.e. the trains and carriages. This has encouraged each part of the rail industry to prioritise its own profits rather than collaborating to improve the system.

Privatisation, meanwhile, never really worked. The rail network of 2 500 stations and 32 000 km of tracks was renationalised in 2001. This has encouraged the government’s transport secretary, a supporter of private sector involvement, to argue that the state Network Rail monopoly should be removed so that companies can bid to build new rail lines to upgrade the railway.

The privately-owned train operators are now the subject of fierce criticism, due to overcrowding and cancelled services. Private companies are supposed to compete to win a bid to be the train operator for a region for a short number of years. However in recent years the number of private companies bidding or renewing their contract as rail operators has fallen. In May 2018 the government rescued the East Coast line by renationalising it. The line had been run by the private rail operator Virgin Rail, which was suffering lower passenger numbers and revenue than forecast.

Some argue that there is a simple solution: reunite track and train in the only feasible manner, nationalisation.

Discuss the likely benefits of price discrimination to rail passengers. Use a diagram to support your answer (15)

Extract A

The case for nationalisation

Privatisation has not made the rail industry cheaper to operate, despite the promise from one government source that it would see private companies bringing: “more competition, greater efficiency and a wider choice of services”.

One reason, suggest the critics, is fragmentation. Instead of pushing British Rail into the private sector as a single supplier the government chose to break it into three components of track, train operators and rolling stock i.e. the trains and carriages. This has encouraged each part of the rail industry to prioritise its own profits rather than collaborating to improve the system.

Privatisation, meanwhile, never really worked. The rail network of 2 500 stations and 32 000 km of tracks was renationalised in 2001. This has encouraged the government’s transport secretary, a supporter of private sector involvement, to argue that the state Network Rail monopoly should be removed so that companies can bid to build new rail lines to upgrade the railway.

The privately-owned train operators are now the subject of fierce criticism, due to overcrowding and cancelled services. Private companies are supposed to compete to win a bid to be the train operator for a region for a short number of years. However in recent years the number of private companies bidding or renewing their contract as rail operators has fallen. In May 2018 the government rescued the East Coast line by renationalising it. The line had been run by the private rail operator Virgin Rail, which was suffering lower passenger numbers and revenue than forecast.

Some argue that there is a simple solution: reunite track and train in the only feasible manner, nationalisation.

Figure 3: Price of a single off-peak train journey, Edinburgh to Leeds Saturday 22nd December 2018 19:00 hours.

In Extract A, lines 15–16, it was suggested that some firms may respond to the advertising ban by cutting the prices of their products. Using game theory and the information provided in Figure 1 and Extract A, discuss the effects on firms of cutting prices in an oligopolistic market (12)

Markets for food and drinks high in fat, salt or sugar (HFSS)

Figure 1: UK market share of potato crisps, 2017

(Source: adapted from https://academic.oup.com/restud/article/3108825/ The-Effects-of-Banning-Advertising-in-Junk-Food 6 April 2017)

Extract A

The effects of a total ban on advertising of HFSS foods

Food and drinks which are high in fat, salt or sugar (HFSS) tend to be sold in highly concentrated markets. Tough new rules banning advertisements for HFSS products, such as those for confectionery, fizzy drinks and potato crisps, come into effect in July 2017 as a means to reduce consumption. The rules apply to media targeted at under-16s and will mean a major reduction in the number of advertisements children see for HFSS products in posters near schools, in films targeted at children, on catch-up television and in social media if it is directed at children. There are three main factors that will determine the effectiveness of the intervention: first, whether advertising acts to expand the market share or steal rivals’ market share. Secondly, how firms in the market adapt their behaviour in response to the ban. Thirdly, what substitute products do consumers turn to if they opted out of the targeted market. Results from a recent survey in the UK suggest that the total quantity of crisps sold would fall by around 15% in the presence of an advertising ban, or by 10% if firms respond with price cuts, since the ban acts to make the market more competitive and firms respond to the ban by, on average, lowering their prices. The survey showed that following a ban, consumers are more likely to switch to another junk food than to a healthy food, which (in addition to the pricing response of firms) acts to partially offset any health gains from the policy.

(Source: adapted from The Effects of Banning Advertising in Junk Food Markets, Dubois, Pierre; Griffith, Rachel, Review of Economic Studies Copyright © 2017, Oxford University Press https://academic.oup.com/ restud/article/3108825/The-Effects-of-Banning-Advertising-in-Junk-Food 6 April 2017 and https://www.asa.org.uk/news/tougher-new-food-anddrink- rules-come-into-effect-in-children-s-media.html 30 June 2017)

With reference to Extract A, discuss the likely effectiveness of ‘measures to open up and increase competition’ in the UK energy market (12)

Extract A

Competition and Markets Authority (CMA) report into the UK energy market

An investigation into the UK energy market by the CMA concluded that customers have been paying £1.4 billion a year more than they would in a fully competitive market. It found that 70% of domestic customers of the six largest energy firms were on an expensive standard rate. These customers could each save over £300 a year by switching to a cheaper deal but appear reluctant to do so.

However, the CMA investigation found no evidence of anti-competitive practices by firms. There has even been an increase in new entrant energy suppliers over recent years and their combined market share has reached 12% in both gas and electricity supply.

To protect consumers, the CMA has introduced various measures to open up and increase competition in the UK energy market. These include: • the creation of a database designed to help consumers switch energy suppliers – rival suppliers can directly contact these customers • the conversion of all homes to smart energy meters making it easier for customers to measure energy consumption and switch supplier • new rules to protect the four million vulnerable customers using prepaid meters – this includes a temporary price cap until smart meters have been installed.

(Source: adapted from ‘Competition and Markets Authority Final report into Energy Market Investigation’ https://www.gov.uk/government/ news/cma-publishes-final-energy-report-in-full)

Refer Extract

With reference to Figure 3 and other information provided, discuss the price and non-price strategies that Starbucks may use to increase profitability (12)

Read Extract

With reference to Figure 2 and Extract A, discuss the possible impact of supermarket monopsony power on both food suppliers and consumers (12)

Amazon.com, the giant online retailer, has too much power’. It uses its market power to put a squeeze on publishers, in effect driving down the prices it pays for books. If a publisher refuses, Amazon may take action by ‘delaying their delivery, raising their prices, and steering customers to other publishers’.

(Source adapted from: https://www.nytimes.com)

Evaluate the likely costs of a monopsony operating in a market such as book retailing.

In October 2017 Scania, the Volkswagen-owned truck maker, was fined €880 million (£771 million) by the European Commission for colluding with five other truck manufacturers over a 14-year period. The firms had agreed to coordinate prices after experiencing additional costs of meeting emission regulations.

With reference to an industry of your choice, evaluate why some firms engage in collusive behaviour.