Nature of Administrative Monopolies

Transcription

1 Chapter 1 Nature of Administrative Monopolies 1. Definition of Administrative Monopoly We usually divide monopolies into market monopolies and artificial monopolies. Market monopoly involves market powers obtained by exploiting patents on technology, enterprise scale, and enterprise competitiveness. In the extreme, when one enterprise is best able to satisfy all demand in the market, or when the average cost of production is lower because production is concentrated in one company, it is called a natural monopoly. Artificial monopoly includes cartel behaviors and monopolies set by the government. The latter involves a monopoly established by the legislature or by administrative departments. The former is legitimate under China s constitutional framework, and is often reasonable given special considerations such as market failures or the provision of quasi-public goods. But monopolies established by administrative departments are legally problematic and stand on shaky logical ground in terms of utility. Monopolies established by administrative departments are referred to as administrative monopolies in this book. As a result, an administrative monopoly is defined as a monopoly granted to a business agent an enterprise or profit-making administrative body through the issuance of regulations or statutes by administrative departments. Monopoly enterprises are given exceptional advantages through the creation of barriers to entry or price regulations, which allow the enterprises to develop monopoly powers. 1

2 2 Administrative Monopoly in China The definition above lays out the composition and the formation of administrative monopoly as well as its consequences. 2. Composition of Administrative Monopoly 2.1. Use of public powers mainly by administrative departments Given the legal framework in China, granting monopoly powers to an enterprise is an important economic decision and represents a shift in the basic economic system (the socialist market economy ). Under the Law of Legislation, monopolies shall be established by the legislature. The monopoly powers established by administrative bodies are unconstitutional and, to a certain extent, illegal. Broadly speaking, administrative departments abuse their authority over drafting legislative acts to establish monopoly powers in favor of certain enterprises. This is made possible by a weak legislature, granting these departments their own administrative monopoly in the regulatory process. In the formation of administrative monopolies, administrative departments issue regulations, statutes, and policies (often in the form of socalled decisions, suggestions, measures, advice, even spirit of the meeting ) for an assortment of alleged reasons: national livelihood, national security, the national economy and the people s livelihood, social security, and international competitiveness. These decisions are made out of concern for the interest of the departments themselves, the enterprises affected, or even the personal interests of some government officials. Monopoly powers and status are granted to companies (especially large-scale SOEs and the elite central SOEs ) through the use of administrative power. For example, as laid out in the Salt franchising measures (, the State Council, Order No. 197, 1996), China National Salt Corporation and its local branches have a monopoly on the sales and marketing of salt; through the issuance of Suggestions on the cleanup and rectification of small oil refineries and the standardization of the circulation order of crude oil and refined oil (, The State Economic and Trade Commission et al., 1999, No. 38), the Suggestions on further cleanup and

3 Nature of Administrative Monopolies 3 rectification of small oil refineries and the standardization of the refined oil market order (, General Office of the State Council et al., 2003, No. 72), the Rail Letter No. 150 ( 150, Ministry of Railways, 2003), large SOEs such as China Natural Gas and Petroleum Corporation and Sinopec attained monopoly powers for the production, processing, and marketing of refined oil. State-owned enterprises not only induce administrative departments to issue preferential regulations and policies through in-house lobbying, but also influence legislatures to promulgate formal laws to form an administrative monopoly structure. For example, relying on the Tobacco Monopoly Law (, 1992), China National Tobacco Corporation and its local companies gained a monopoly on the sale of tobacco. The power of public administration can push forward the formation of administrative monopolies in three main ways: First, by setting up regulatory barriers to market entry to intentionally protect existing enterprises in the industry and save them from market competition; second, establishing de facto barriers to entry by providing preferential market conditions (especially in terms of price) to existing enterprises, which provide a competitive advantage despite the lack of formal barriers to entry; third, by government departments using administrative powers to directly intervene in markets and providing monopoly powers to existing enterprises by means such as forced mergers. The above three approaches to creating administrative monopolies can be utilized either individually or jointly Establishment of monopoly status Monopoly status is usually used to describe a for-profit body such as a single enterprise or alliance consortium that is able to use its dominant position in the market to influence the equilibrium price, amount, and other trading factors (such as arrival time, product specifications and standards, and services) of its products. That leads to deviations from the welfare-maximizing resource allocation possible in free markets. In the case of an administrative monopoly, the monopoly status basically coincides with the general case above. However, there is another situation, at least in theory, which deviates in significant ways: In a market in which

4 4 Administrative Monopoly in China no individual enterprise holds a large enough market share to affect market equilibrium, barriers to entry can still lead to high prices and underproduction, thus deviating from the welfare-maximizing market equilibrium. In real life, the tobacco and salt industries resemble this situation The main actor in administrative monopoly Legal scholars tend to regard the administrative departments that impel the formation and strengthening of monopoly as the main actor in the creation of administrative monopolies, while economists usually treat enterprises (including for-profit administrative departments) as the main actor. In this paper, we take both of them to play a central role in the creation of administrative monopolies. If there were no abuse of public powers by administrative departments, enterprises would not be able to gain monopoly status. Meanwhile, if there were no enterprise to play the part, the monopoly status would be meaningless. Administrative monopoly enterprises are mainly SOEs, including both central SOEs and local SOEs. If the right combination of interests align, it is possible for some privately owned enterprises to become the beneficiaries of administrative monopoly powers. Some administrative monopoly bodies are profit-making administrative departments. For example, the former Ministry of Railways was an administrative department, but all of its subordinate railway bureaus conducted profit-making activities such as investment, construction, and railway operations. 3. Administrative Monopolies vs. Market Monopolies Market monopolies include both total monopolies and oligopolies obtained through free competition without artificial barriers to entry or preferential conditions. Market monopolists usually have specific advantages including absolute cost advantage, economies of scales, and product differentiation. Natural monopolies are a special case of market monopolies. In this case, due to the nature of production, the cost function operates in such a way that a single enterprise can fully satisfy market demand. As a result, the enterprise naturally obtains a dominant position in the

5 Nature of Administrative Monopolies 5 market. For natural monopoly industries in the real economy, these characteristics are likely to arise because of some particular production process. For example, in the power industry, power transmission (the power grid) usually has features of a natural monopoly, whereas the power generation process does not. There are several distinctions between administrative monopolies and market monopolies, elaborated as follows in coming sections Formation of the monopoly In the case of market monopolies, the monopolists gain their position through competition, and they often possess particular production technologies, such as patents. In other words, monopolists emerging from competition are usually the strongest actors in the current competitive environment. With the introduction of new technology, the market structure will change and the make-up of the monopoly will change accordingly. For administrative monopolies, monopolists (or even monopoly industries) are chosen by administrative departments. Their utilization of technology and overall competitiveness have not been tested by the market. The monopolists status can be sustained for a long time under intentional protection and pro-active support from administrative departments Use of public power Market monopolists do not require the intervention of government actors in the formation of their monopoly. On the contrary, in countries with well-established market economic mechanisms, public power is usually applied specifically to restrict and correct market monopoly behaviors, and to improve market efficiency. In administrative monopolies, the formation of the monopoly is the result of the abuse of public power, where the most widely used and also the most harmful measure is the establishment of institutional barriers to market entry Potential competition Market competition includes both current competition and potential competition between existing enterprises in or across industries. Potential

6 6 Administrative Monopoly in China competition is competition that can occur between potential entrants and existing enterprises through future market entrance or through already existing profit opportunities. Under potential competition, although monopolists have already gained a monopoly position and dominant status in the market, they will continuously adjust the original monopoly equilibrium towards the optimal efficiency situation. This is done to avoid the situation in which high prices and potential profits attract new entrants to the industry. Under the assumptions of frictionless entrance and exit, potential competition is even able to force natural monopolists to price their products at a relatively low level and to achieve Pareto-optimal conditions under the non-negative profit assumption Ramsey-optimal. This phenomenon, in which potential competition achieves (weak) welfare maximization in natural monopoly industries, is called the weak invisible hand theorem. In contrast, preferential market conditions in administrative monopolies mean that monopolists not only enjoy an unfair edge on existing competitors, but also benefit from barriers to entry, which result in a dearth of potential competition. If there is no entrance or threat of entrance by new enterprises, administrative monopoly enterprises will maintain high monopoly prices. The persistence of super-profits then leads to further slackening in the management of the enterprises. Therefore, under the influence of institutional barriers to entry, insufficient competition between existing enterprises within the industry and the loss of potential competition leads to even more serious inefficiencies. 4. Constitutional Characteristics of Administrative Monopoly At first glance, administrative monopolies and traditional market monopolies appear very similar, in that they both exclude competition. However, administrative monopoly is the product of government intervention in the economy, which is fundamentally different from typical monopolies arising spontaneously from the operations of an economy. It is a reflection of the ineffective restrictions on government powers and an inevitable result of weak enforcement of constitutional and administrative laws. Administrative monopolies do far more harm than market monopolies.

7 Nature of Administrative Monopolies 7 One of the main characteristics of traditional planned economies is that production and the economic processes are entirely controlled by public power, i.e. the government. Over time, most socialist countries have enacted reforms to their economic systems to a greater or lesser extent. The private economy and market competition were brought back (under the complete public ownership system, there is no true market competition, neither is there monopoly), but the substantial intervention in economics by the government has doggedly remained. This explains the abundance of administrative monopolies existing in these traditionally planned-economy countries. China is among those countries where administrative monopolies are both severe and widespread. Administrative monopolies in planned-economy countries have their own unique backgrounds. The paper Monopolies under Socialist Conditions ( ) published in the mid-1980s has already discussed this topic in detail, though the concept of administrative monopoly had not yet been put forward. That paper stated: Monopolies under socialist conditions are not only about economic entities behavior, but in most cases also involve intervention by government departments. In China, due to theoretical mistakes and institutional biases, the economic function of government departments has developed one-sidedly. Government departments are in charge of issues that should not be under their management. As a result, a great number of government-run enterprises have been established, each of which has a backstage supporter within the government, a phenomenon captured by the traditional Chinese saying, and Big trees make for good shade. Relying on the power of government departments, these enterprises have obtained special benefits in the production, supply, and sale of goods, leading to the formation of concrete monopoly status. On the other hand, government departments benefit financially from the enterprises, which create a flexible financial resource for unexpected needs. In conclusion, administrative monopolies result from the intervention of public power in economic processes. Therefore, the suppression of administrative monopolies requires not only anti-monopoly regulations, but more importantly restrictions on governmental power. This is also the

8 8 Administrative Monopoly in China reason why administrative monopoly issues cannot be resolved by traditional anti-monopoly regulations that only set restrictions on economic monopolies. The failure of the restrictions contained within China s Antiunfair Competition Law and Anti-Monopoly Law to curtail administrative monopolies strongly supports this contention. 5. Main Forms of Administrative Monopoly Broadly speaking, all actions by administrative departments, which lead to an increase in the degree of monopolization in a market can be regarded as forms of administrative monopoly. As described above, administrative monopoly is mainly presented by establishing barriers to market entry and price regulations. The latter can be divided into two different types. The first is the price regulation on products sold by the monopolist, with the other being regulations on purchase prices for production inputs by the monopolist. Regulations on purchase prices can mean preferentially low prices or even completely free use of resources and investments by the monopoly holder. Administrative departments promoting either business mergers that increase the degree of monopoly control or the formation of price cartels among enterprises should be seen as actions supporting administrative monopolies. From the perspective of geography, administrative behavior that sets barriers on the flow of products or resources between regions also promotes administrative monopolies Establishment of barriers to entry Barriers to entry are defined as legal or administrative measures taken to prevent or penalize new market entrants, thus providing one or multiple enterprises with monopoly power in a certain industry. For example, the Suggestions on the cleanup and rectification of small oil refineries and the standardization of the circulation order of crude oil and refined oil issued in the name of the general office of the State Council in 1999 (, commonly known as Document No. 38) offered monopoly powers in processes such as drilling, refining, selling, importing, and exporting oil to

9 Nature of Administrative Monopolies 9 CNPC and Sinopec, a move that effectively barred other enterprises from entering the oil industry Price regulations on products sold by the monopolist Here we discuss regulations that directly decide the price of products or services sold by monopolists, often setting prices above competitive market equilibrium. Price regulations are usually suited to industries that are already subject to a monopoly, or they can be used in combination with measures establishing barriers to entry. In western developed countries, price regulations usually arise in response to special situations such as states of emergency or market monopolies, and they are designed to protect the public interest. In the situation of price controls on market monopolies, governments can set price regulations based on marginal costs or average costs. The regulated prices for these kinds of products are usually lower than the monopoly market price, so that the improper earnings of the monopolists are restricted and the consumers legitimate interests are protected. With administrative monopolies in China, price regulations are seldom implemented to lessen the price distortions created by market monopolies. On the contrary, the price levels of the monopolists products and the profit level of the enterprises are further increased through price regulations, which create a larger price distortion and leads to more severe social welfare losses. For example, table salt prices are set by administrative departments at around RMB 3000 per ton. If the price were not regulated, it would approach the industrial salt price (about RMB 750 per ton), which emerges from a competitive market environment. The reason why such high-regulated prices can be set is due to the fact that the table salt monopoly prevents the entrance of competitors. A detailed discussion of this industry can be found in Sub-Report Preferential prices on input purchases Preferential treatment on acquiring inputs is also a kind of price regulation. It only differs from price controls on sales prices in that when the

10 10 Administrative Monopoly in China monopoly enterprises are the buyers, the regulated purchase price is lower than the competitive equilibrium price, and in extreme cases the purchase price can even be zero. Two prominent examples are monopoly SOEs free use of state-owned land, and the artificially low deposit and lending rates set by the People s Bank of China (PBC) Promotion of mergers leading to monopolies The promotion of mergers leading to monopolies can take the form of orders, suggestions, stipulations, or the offer of special benefits by administrative departments. One example of such a merger was the combination of giants in the telecom industry, leading to the formation of a duopoly or triopoly in the industry Barriers on the movement of products and resources between regions These are characterized by barriers erected by local governments, which hinder the flow of certain products or resources. This effectively consolidates the monopoly status of local enterprises that produce the restricted product or resource. For long periods of time, many regions in China erected barriers against non-local tobacco products. In this book, we mainly discuss the first three of these five forms of administrative monopoly.