UNIVERSITY OF ULSTER
FACULTY OF BUSINESS AND MANAGEMENT
School of Business Organisation and Management
Module: Business Economics ECO335C1
19th November 2004

Regulation and privatisation

by: Ulrike Messbacher

Contents

Introduction 3

Reasons for privatisation 3

Outline of the understanding of market forces argument for privatisation 4

The market forces argument for privatisation 4

Why this argument may break down if the industry is a natural monopoly 5

Economic issue of natural monopoly 5

Natural monopoly and the breakdown of market forces 6

Carefully assess the key economic issues which regulators of privatised industries should consider 7

Regulation of privatised industries 7

References 10

Web resourses 10

Introduction

The economic trend of privatisation that started in Great Britain in the early 1980s has now spread to all of the European states (www.fiwi.uni-bonn.de). Privatisation is characterised as a change in ownership and control of an enterprise from the public sector to private sector by share flotation or private sale. In a broader sense, the definition includes the transfer of functions previously performed exclusively by the public sector to the private sector and all the other measures which aim to reduce the role of government in a national economy in order to strengthen free market economy (www.canaktan.org).

Reasons for privatisation

Nationalised industries are, in general, less efficient than private ones and tend to be bureaucratic due to the lack of control through competition and bankruptcy risk. Therefore, they normally do not use resources to their full capacity and provide goods and services to consumers at relatively high prices and of poor quality (Sloman 2003, p. 353). In addition, increasing state borrowing became a serious economic problem in the 1980s, which is why governments tried to turn away from state ownership and subsidisation, in order to discharge public debt. Outline of the understanding of market forces argument for privatisation

The market forces argument for privatisation

The basic element of privatisation is to expose managerial activities to open competition in order to increase efficiency, further a reduction in government interference and therefore allow greater freedom for flexible managerial decision making. There are two types of efficiency expected from priva tisation; productive efficiency from lower costs, and allocative efficiency from lower prices reflecting lower costs (Johnson 1988, p. 4). A competitive market creates corporate efficiency and social benefits, as firms are forced to produce at the lowest possible level of costs in order to provide goods and services at a price as favourable as possible. Privately owned companies have also a greater interest in producing goods and services in a quantity and variety which meet consumers’ demand; if they do not, they may suffer market failure or become liable to hostile takeover bids, since shareholders will sell their unprofitable shares (Sloman 2003, p. 353). Moreover, there is the impact of competition on production and the level of output in a national economy. Firms are not prepared to work uneconomically and as they aim to produce what customers demand, their economic resources usage is more efficient and they flow to a higher valued use (Beesley 1983, p. 4).

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