Rip-off Britain

Evidence of oligopolistic collusion?

In recent years there have been repeated allegations that British consumers are paying much higher prices
than their European counterparts on a wide range of goods. The car industry, the large supermarket chains
and the banks have all been charged with ‘ripping-off’ the consumer. Such has been the level of concern,
that all three industries were referred to the Competition Commission at the turn of the 21 st century. In
this case study we consider what has happened since then.

Car Industry
The clearest evidence of anti-competitive pricing behaviour in the UK car industry came with the admission
by Volvo in July 1999 that it had entered secret agreements to keep British car prices high. This appeared to
be just the tip of an iceberg, with car manufacturers fixing prices through the system of selective and
exclusive distribution (SED). In other words, manufacturers would only supply through ‘official’ dealers
who would sell at the list price (or at small agreed ‘discounts’).

When we consider the difference in price between identical models in Britain and mainland Europe the
discrepancies were huge. The Competition Commission report published in April 2000, found that car
buyers in Britain were paying on average some 10 to 12 per cent more than those in France, Germany and
Italy for the same models For 58 of the 71 models analysed by the Commission, the UK price was at least
20 per cent higher than in the cheapest country. The Commission concluded that British car buyers
were paying around 10 per cent too much for new cars, or some £1100 for an average car.

The price discrepancies between Britain and Europe were maintained by car manufacturers blocking
cheaper European cars coming into the UK. Manufacturers were accused of adopting a number of anti-
competitive practices. These include threatening mainland European car dealers with losing their
dealership if they sell to British buyers, and delaying the delivery date of right-hand drive models to
mainland European dealers in the hope that British buyers changes their mind and go back to a British
dealership.

As the problem involved more than one EU country, the European Commission (EC) also examined the
issue. It concluded that the motor vehicle manufacturers had agreements with distributors that were
too restrictive. In 2002, the EC changed the ‘Block Exemption’ regulations governing the sector to allow
distributors to set up in different countries and to sell multiple brands of car within their showrooms.
Furthermore, distributors who are offered an exclusive ‘sales territory’ distribution agreement by car
manufacturers are now allowed to resell cars to other distributors who are not part of the
manufacturer’s network. This should help to develop other sales outlets such as car supermarkets and
Internet retailers. In addition, the regulation has opened up the repair and spare parts sector to more
firms.

Changes in the regulations, and the addition of ten new member states in 2004 and another two in
2007, have made the car market more competitive by increasing the sources of supply. Slowly, prices of
new car prices have been converging across the EU towards the lower-price markets.
But what about the UK? Since 2003 new car prices have fallen. In August 2005 new car prices fell by 0.5
per cent over the year, while general price inflation over the same period was 2 per cent. There is still
scope for shopping around outside of the UK, however – 17 out of 81 models listed by the EC in August
2005 were at least 20 per cent higher than the average EU price.

Supermarkets
The Competition Commission enquiry into supermarkets, which began in April 1999, followed a nine-
month investigation by the Office of Fair Trading into the major supermarket chains’ business activities.
The OFT identified three major areas of concern: the use of barriers to entry, the lack of effective price
competition, and the relationship between the large supermarket chains and their suppliers.

The main issue concerns the major supermarket chains’ huge buying and selling power. They have been
able to drive costs down by forcing suppliers to offer discounts. Many suppliers, such as growers, have
found their profit margins cut to the bone. However, these cost savings have not been passed on from
supplier to shopper. The supermarket chains have adopted a system of ‘shadow pricing’, a form of tacit
collusion whereby they all observe each other’s prices and ensure that they remain at similar levels:
often similarly high levels rather than similarly low levels! This has limited the extent of true price
competition, and the resulting high prices have seen profits grow as costs have been driven ever
downwards.

Since the OFT referral, the £6.7 billion take-over of Asda by Wal-Mart, the world’s largest retailer, with a
reputation of being a ruthless price cutter, promised to change the whole issue of pricing in the
supermarket sector. Of the supermarket chains, Asda has always been one of the cheapest. With the
Wal-Mart take-over, the drive to cut prices gained fresh momentum. Asda planned to slash prices on
hundreds of products, with most seeing some price reduction.

Tesco in response, striving to maintain its position as the UK’s number one supermarket retailer, launched
its own price-cutting campaign. It was determined not to get left behind in the price cutting war.

Despite these apparent price wars, the Competition Commission was still concerned that competition was
being restricted. It sought to answer a number of questions. Is price competition is limited to a relatively
small number of frequently purchased items, and at stores which face the most local competition? Are
cost reductions ‘being rapidly and fully passed through to consumers’? Is ‘the pattern of prices and
margins across different types of product, including branded and own label products, related to costs to
the extent that would be expected in a fully competitive market? This would include products
persistently sold at a loss, which may benefit consumers in the short term but which may distort
competition and consumer choice, and may adversely affect the supply or availability of such products
in the longer term.’1

One solution suggested by the Competition Commission would be to force supermarkets to publish
their prices on the Internet, thereby allowing consumers or consumers’ organisations to make easy
comparisons of the prices charged by different supermarkets.

By March 2006 the OFT had uncovered more substantive evidence of the potential abuse of market
power in the grocery sector by the supermarkets 2. Specifically it noted four issues.
  Supermarkets have acquired many plots of land near their own stores to prevent rivals from
buying the sites. The rivals are often unable to find alternative sites in the area because of
planning restrictions.
 The power to drive down the prices paid to suppliers has increased since 2000. This makes it
more difficult for convenience stores to compete, given that their wholesalers often do not
have equivalent power to drive down prices from suppliers.
 A possible distortion of competition by charging high prices where there is little or no
competition and charging lower prices, often below cost, where competition is more intense.
 Entry into the convenience store sector. With brands such as ‘Tesco Metro’ and ‘Sainsbury’s
Local’, supermarkets have been successful in driving out many small stores from the market. So
far, the result has tended to be lower prices, ‘but this may have been at the expense of choice
of store at the local level’.

Banks

According to a Treasury report, chaired by Don Cruickshank 3, UK banks are making excessive profits of
some £3 billion to £5 billion per year, with bank customers paying up to £400 a year too much in
charges and interest rates. The report found that current accounts were the least competitive product.
They pay little or no interest to customers in credit and charge exorbitant amounts if you go overdrawn.
But it was not just current accounts: mortgages, savings accounts, credit cards and personal loans were
all identified as often being poor products.

Banks have tight control over money transmission systems, cheque clearing and cash machines. This
makes it difficult for new competitors to enter the market. For example, a new bank without an
extensive network of cash machines, would find it difficult to attract customers, given the hefty charges
for using other bank’s machines. In addition, bank customers are often unwilling to consider changing
accounts, fearing that this will involve a lot of time and expense.

Small businesses were found to be facing even more excessive charges. The government thus asked the
Competition Commission to inquire into this particular aspect of the provision of banking services.

In 2002, the Competition Commission reported that the ‘Big Four’ UK banks (Barclays, HSBC, Lloyds-TSB,
RBSG) charged excessive prices to small and medium-sized enterprises (SMEs) in England and Wales.
This resulted in excessive profits of some £725 million per year 3.

It found that each of the four banks pursued similar pricing practices. These included no interest on
current accounts; free banking offered only to some categories of SMEs, usually start ups; the use of
negotiation to reduce charges for those considering switching to other banks; lower charges or free
banking to those switching from other banks. Switching to another bank, however, requires
considerable time and effort for most SMEs. They are therefore locked into a particular bank for a long
time. The result is very little competition between the Big Four for the majority of small business
customers.

The Competition Commission also found significant barriers to entry to the banking market, and
especially to the market for ‘liquidity management’ services (i.e. the management of current accounts
and overdraft facilities) and for general-purpose business loans.
It recommended a reduction in barriers to entry to permit more competition within the industry. This
could best be achieved by requiring banks to permit fast and error-free switching by SMEs to other
banks (to enable SMEs to shop around for the best value in banking services) and either to pay interest
on current account holdings or offer free banking services.

In May 2005 the OFT referred the supply of current account banking services in Northern Ireland to the
Competition Commission. This market is tightly concentrated and the OFT found that the banks impose
a number of charges when customers are overdrawn, or in credit, that are not found in the rest of the
UK. Furthermore, it found that there is limited switching by customers to other accounts and that firms
do not actively compete on price. Indeed, the OFT indicated that there may be price leadership
behaviour.

To look at recent cases the Competition Commission has considered, see the Competition Commission
website.

Source: Sloman

Questions
1 Identify the main barriers to entry in the supermarket and banking sectors. (4 marks)
2 In what forms of tacit collusion are firms in the three industries likely to engage? (10 marks)
1
‘Supply of Groceries from Multiple Stores Monopoly Inquiry: Annex 2 To Issues Letter’ (Competition Commission,
2000)
2
‘The supply of banking services by clearing banks to small and medium-sized enterprises: A report on the supply of
banking services by clearing banks to small and medium-sized enterprises within the UK’, (Cm 5319, March)
3
‘Competition in UK Banking: a Report to the Chancellor of the Exchequer’ (TSO, 2000)