Contestability & Privatisation Essay- Transport Economics

Here are two essays:

One on contestability and the other on privitisation entitled:

Discuss the extent to which the deregulation of buses in the UK has been beneficial (20)

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  • Created by: James
  • Created on: 23-06-11 17:06
Preview of Contestability & Privatisation Essay- Transport Economics

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A) The characteristics of a contestable market
A contestable market it is a market in which the the costs of entry and
exit are zero. This means that it is easier, to some extent, for firms to
enter and exit the market as the initial start-up costs are zero, and there
is no barrier to exit and no sunk costs (the cost of exiting a market, e.g.
Advertising expenditure). The idea was applied to the deregulation of the
US domestic air transport services in the late 1970s, and underpinned much
of the UK transport policy over the past 25 years.
In theory, incumbent firms should always have the potential threat of new
firms entering the
market. This
is because new firms are attracted to the market by low entry and exit
costs, and high abnormal profits obtained by existing firms. In the long
run however, any abnormal profits will be competed away, and profits are
returned to normal as a consequence of the "hit and run" and "cream
skimming" tactics of new firms. Hit-and-run tactics are when new firms
enter the market for a short period of time to make quick profits before
exporting the market. Similarly, cream skimming is when firms enter
markets with short-term abnormal profits, and then leave once a profit
has been made. Th is Shown in the diagram below.

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A monopoly may price at P1 and reach a profit maximising equilibrium. If a
market is contestable, there is downward pressure on price, because the
existence of supernormal profits provides a signal for new firms to enter
the market and if the existing monopolist is producing at too high a price
or has allowed their average total costs to drift higher, then entrants can
undercut the monopolist and some of the monopoly profit will be
competed away.…read more

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In monopolistic competition, there is a barrier to entry which exists in
the form of customer loyalty. It takes firms many years to gain a
sufficient customer base and loyalty which to newly entering firms would
be difficult to gain quickly. Moreover, in the transport market for
example, other barriers to entry exists in the form of licensing and
regulatory requirements, for example health and safety regulations which
are bureaucratic, time-consuming and costly further firms.…read more

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You would expect
therefore that the price of fares will decrease, and the quality of service
will increase and consumer surplus will also increase. Lower costs have also
been found to result from deregulating bus services. For example, reductions of
as much as 35-40% were achieved following deregulation of non-urban buses.
This was associated with greater concentration of buses on the main routes and
a wider range of services being offered to consumers.…read more

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Furthermore, the
government spending on the subsidies incurs a substantial opportunity
cost, which could be better spent elsewhere and is debatable in itself.
It could also be argued that private firms have little interest in consumer
safety, as it is seen as an avoidable operation cost. However, the
government still regulates the bus industry in terms of legal requirements
and regulations. This benefits consumers, however is extremely expensive
for both the government and the private firms due to high levels of
bureaucracy.…read more

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