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Deregulation of Markets

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Economics

Usually, governments are in charge of laws and regulations and they try to keep tight control. However, sometimes governments might decide to relax or completely get rid of certain regulations in a particular market. Why would they do that? In this explanation, you will understand why governments deregulate markets and the advantages and disadvantages of a deregulated market.

What is a deregulated market?

In a general sense, deregulation is all to do with the removal of legislation and laws imposed by the government. In economics, this happens in the context of markets.

Deregulation is removing legislation and laws imposed by the government on a particular market.

Truly, the main aim of deregulation is to increase healthy competition in that market and drive prices down for consumers.

Reasons for market deregulation

There are many reasons why the government might deregulate a market. Some reasons are:

  1. Stimulate economic growth. Deregulation involves removing laws and regulations for new businesses hence increasing competition in the market. The more businesses in a market, the more economic activity that occurs. This increases economic growth.
  2. Encourage innovation. Since deregulation increases competition, firms must be innovative if they are to win over their competitors' consumers and dominate the market.
  3. Ensure business freedom. Businesses can operate without worrying about government regulations. It allows them to develop new products, partner with other companies, and interact with their customers without fear of being prosecuted.

Advantages of market deregulation

Sometimes, a government will choose to deregulate specific markets. Some advantages of a deregulated market are:

  • Economic growth. By deregulating markets, the government stimulate economic growth because firms are now able to conduct businesses as they deem fit making themselves as efficient as possible. Being more efficient can increase productivity and output in an economy, thus leading to economic growth.
  • Lower prices. Deregulation can promote competition in a market as there are no barriers to entry. More firms will enter the market. With more firms in a market, this translates to lower prices for consumers and this increases their consumers surplus.

The deregulation of the telecommunications market has allowed consumers to benefit from lower prices of phone calls and internet usage.

  • Increased customer choice. When the government deregulates a market, there are reduced barriers to entering the market. This allows firms to enter without worrying about many costs. The increase in the number of firms in the market gives consumers more firms to choose from.
  • More freedom. With the removal of regulations, firms and consumers have room to decide how they conduct business. Sometimes, restrictions harm the development of firms and with their removal, they are free to make decisions on their own.

Disadvantages of market deregulation

The deregulation of markets does have some disadvantages. Some of them are:

  • Lower standards. Regulations ensure that firms do not produce goods and services that are below a certain standard. However, with their removal, the competitive nature of the market will encourage businesses to lower standards to attract unsuspecting customers.
  • Market failure. The deregulation of markets can lead to market failure as firms are no longer regulated by certain standards and this can encourage them to take more risks.

The 2008 Financial Crisis is an example of how the loosely regulated housing market led to market failure and disastrous consequences for both consumers and firms.

  • Monopoly power. With the removal of government restrictions, small businesses are bound to be driven out of the market by large established companies that create monopolies to control the market.

Examples of deregulation of markets

There are many examples of deregulation around the world. Some of these examples are:

  • Airline deregulation in the US. In 1978, the US government deregulated the airline industry allowing for an increase in competition. This resulted in a 33% decrease in the prices of tickets and helped lower costs airlines and smaller airports.1
  • Mail delivery deregulation in the UK. In the UK, the Royal Mail had a legal monopoly on delivering letters and parcels and it didn't have competition. But in 2006, the market was deregulated and competition was allowed.
  • The energy sector in the UK. The energy sector in the UK was deregulated in 1986. It was under Margaret Thatcher that the government decided to sell off the British Gas Corp. British Gas remained a whole combined monopoly provider of gas after being privatised. However, British Gas was not allowed to charge what they liked for their gas. The company was supervised by the Office of Gas and Electricity Markets (Ofgem) to protect consumers against abuse.

Deregulation under Thatcher's government

Margaret Thatcher was an advocate for the free market and many of her economic policies involved the privatisation and deregulation of markets.

Privatisation is the selling of state-owned assets to the private sector. Market deregulation is sometimes accompanied by privatisation. Check out our Privatisation explanation to learn more.

Let’s study one example of deregulation and privatisation during Thatcher’s government and some of its economic impacts.

Big Bang: deregulation of financial markets

The 'Big Bang' here refers to the deregulation of the London Stock Exchange (LSE). Deregulation allowed for free-market competition in the financial markets and caused London to become a major European centre of finance.

There were three key components of the Big Bang:

  1. Abolishing minimum fixed commissions on trade. This allowed for more competition.
  2. Ending the separation of dealers and advisors. This allowed for more mergers and takeovers.
  3. UK brokers could be owned by foreign firms. London could now operate in foreign markets. 2

The Big Bang produced a ‘free for all’, which caused many big banks to take over smaller ones. Some UK banks were bought up by larger European, American, or Japanese banks. This projected the narrative that these larger banks were ‘too big to fail’.

The volumes of trades had significant increases after the deregulation policies Thatcher introduced and the costs for these firms were reduced.

The deregulation policies not only impacted the financial market but also changed London’s geography. Many banks were now around a 10-minute walk away from each other and, importantly, from the Bank of England.

Initially, many people benefited from the deregulation of the financial markets. But there were many dangers ahead. For example, a Conservative minister, David Willets, expressed concern and the potential dangers of the Big Bang saying that the financial market could lead to a ‘boom and bust’.

The narrative that these large banks were 'too big to fail' and their unethical behaviours, laid the groundwork for the 2000 Dotcom Bubble and the 2008 Financial Crisis.

You can learn more about the 2000 Dotcom Bubble and the 2008 Financial Crisis in our explanations.

Deregulation of Markets - key takeaways

  • Deregulation is the removal of legislation and laws imposed by the government on particular markets.
  • Deregulation helps ensure healthy competition in the market and allows businesses to freely make effective decisions for their progress.
  • Some reasons why a market might be deregulated are: to stimulate economic growth, improve innovation, and give firms more freedom.
  • Some advantages of deregulation are economic growth, lower prices, increased consumer choice, and more freedom.
  • Some disadvantages of deregulation are lower standards, market failure, and monopoly power.
  • Examples of deregulated markets are the energy and financial sectors in the UK.

Sources

1. The Economist, ‘Freedom in the air’, 1997.

2. Jamie Robertson, ‘How the Big Bang changed the city of London forever’, BBC, 2016.

Deregulation of Markets

Deregulation of a market can positively and negatively impact the market. 


Some positive impacts on a market are:

  • Increase in innovation
  • Increase in competition
  • Lower prices
  • Increased freedom


Some negative impacts on a market are:

  • Market failure
  • Monopoly power
  • Lower standards

Some examples of deregulated markets are:

  • US airline industry
  • UK energy sector
  • UK financial market in the 1980s

Deregulation can benefit the economy by increasing economic growth. This is because it helps increase competition within a market. The more businesses within a market the more economic activity that occurs, increasing economic growth.

The deregulation of the financial market allows for more financial transactions to occur around the world efficiently and more easily.

Some reasons why governments choose to deregulate markets are:

  1. To stimulate economic growth. 
  2. To encourage innovation.
  3. To ensure business freedom.

Final Deregulation of Markets Quiz

Question

Define deregulation.

Show answer

Answer

Deregulation is removing legislation and laws imposed by the government on a particular market.

Show question

Question

What is the main aim of deregulating a market?

Show answer

Answer

The main aim of deregulation is to increase healthy competition within that market and drive prices down for consumers.

Show question

Question

What are some reasons why a market will be deregulated?

Show answer

Answer

Some reasons why the government might deregulate a market are:


  • Stimulate economic growth. Deregulation involves removing laws and regulations for new businesses hence increasing competition within the market. The more businesses within a market the more economic activity that occurs, increasing economic growth.
  • Improved innovation. Since deregulation increases competition within a market, firms must be innovative if they are to win over their competitors' consumers and dominate the market.
  • More freedom. Businesses can operate without worrying about government regulations. It allows them to develop new products, partner with other companies and interact with their customers without fear of being prosecuted. 

Show question

Question

What are some advantages of a deregulated market?

Show answer

Answer


  • Economic growth
  • Lower prices
  • Increased consumer choice
  • More freedom

Show question

Question

What are some disadvantages of a deregulated market?

Show answer

Answer


  • Lower standards
  • Market failure
  • Monopoly power

Show question

Question

What are some examples of a deregulated market?

Show answer

Answer


  • Big Bang - the deregulation of the financial markets in the UK during Thatcher's governance.
  • Airline deregulation in the US.
  • Mail delivery deregulation.
  • Deregulation in the energy sector in the UK.

Show question

Question

Explain how the deregulation of a market stimulates economic growth.

Show answer

Answer

Deregulation involves removing laws and regulations for new businesses hence increasing competition within the market. The more businesses within a market the more economic activity that occurs, increasing economic growth.

Show question

Question

Explain how the deregulation of a market improves innovation.


Show answer

Answer

Since deregulation increases competition within a market, firms must be innovative if they are to win over their competitors' consumers and dominate the market.

Show question

Question

Explain how the deregulation of a market lowers prices and provide and example.

Show answer

Answer

Deregulation can promote competition in a market as there are no barriers to the entry. More firms will enter the market. With more firms in a market, this translates to lower prices for consumers and this increases their consumers surplus.


One example of this is when the deregulation of the telecommunications market allowed for consumers to benefit from lower prices of phone calls.

Show question

Question

Explain how the deregulation of a market increases the number of choices available to consumers.

Show answer

Answer

When the government deregulates a market, there are reduced barriers to enter the market allowing firms to enter without worrying about many costs. This increases the number of firms in the market giving consumers more firms to choose from.

Show question

Question

Explain how the deregulation of a market leads to lower standards.

Show answer

Answer

Regulations ensure that firms do not produce goods and services that are below a certain standard. However, with their removal, the competitive nature of the market will encourage businesses to lower standards to attract unsuspecting customers.

Show question

Question

Explain how the deregulation of a market can lead to market failure and provide an example.

Show answer

Answer

The deregulation of markets can lead to market failure as firms are no longer regulated by certain standards and this can encourage them to take on more risks.


One example of this is the 2008 Financial Crisis. The loosely regulated housing market lead to market failure and disastrous consequences for both consumers and firms globally.  

Show question

Question

Explain how the deregulation of a market can lead to monopoly power.

Show answer

Answer

With the removal of government restrictions, small businesses are bound to be driven out of the market by large established companies allowing them to create monopolies to control the market.

Show question

Question

What is the Big Bang?

Show answer

Answer

The 'Big Bang' refers to the deregulation of the London Stock Exchange (LSE).

Show question

Question

Which British prime minister advocated for the free market, privatisation and the deregulation of markets?

Show answer

Answer

Margaret Thatcher

Show question

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