David Currie speaks about the CMA experience of behavioural economics

Speech given by CMA Chairman, David Currie, at a New Zealand Commerce Commission public lecture.

David Currie

Homo economicus and Homo sapiens: The CMA experience of behavioural economics

It is a great privilege and pleasure to be here this evening with the opportunity to speak to such a distinguished audience. I am delighted to be here in New Zealand. I was last here over 20 years ago when I was establishing the Regulation Initiative at London Business School and I benefited hugely by learning about the radical deregulation agenda that you were then pursuing. I have benefited similarly from the different meetings that the New Zealand Commerce Commission (NZCC) have scheduled for me today. This builds on the long-standing process of cross-fertilisation between our 2 authorities (including the Competition and Markets Authority’s (CMA) predecessor organisations, the Office of Fair Trading (OFT) and Competition Commission (CC)). Thus I had the pleasure and benefit of meeting Mark Berry and Brent Alderton at our London offices in September. And of course there is the regular two-way traffic of staff: a number of former UK authority alumni have joined you, and we miss them, while we have benefited from movement in the other direction, both from the NZCC itself, as well as from NZ private practice. There are real mutual gains from trade in this interchange.

Of course, we both work in different political and legislative contexts. We are both combined competition and consumer authorities, as indeed is the Australian Competition and Consumer Commission (ACCC), and I think we both agree that there are significant synergies that mean that this combination is beneficial. My later discussion of behavioural economics – the main focus of this speech – bears on why this is so. We both (and again the ACCC) have a voluntary merger notification regime, in contrast to many other jurisdictions. And we observe and contribute to an important convergence of competition law and policy around the world, advanced by the important work of international organisations such as the International Competition Network (ICN) and the Organisation for Economic Co-operation and Development (OECD), which means that the principles and processes that underpin our work are increasingly aligned, and that we learn the lessons not just from domestic cases but also from each other. I am greatly looking forward to the ICN Annual Conference in Sydney next week, at which both our organisations will be well represented. We also have boards overseeing the work of our 2 authorities that are international in their membership. In your case you share formal cross-representation with the ACCC. We have no formal cross-representation, but we do have the huge benefit of a powerful international participation in the CMA Board, including Bill Kovacic, former US Federal Trade Commission Chairman and I would confidently say the leading academic on international competition regimes (I’m delighted that Bill and one of our Inquiry Chairs, Professor Martin Cave, are coming to your Competition and Regulation Conference in July); Philip Lowe, who ran DG Comp, responsible for European Union competition enforcement, for nearly a decade; and Annetje Ottow, Professor of Public Economic Law at the University of Utrecht, whose latest book, ‘Markets and Competition Authorities’, is published next month by Oxford University Press.

There are also differences. You, in contrast to us and Australia, have no criminal cartel offence, although I understand that legislative steps are underway to introduce it here. You have no concurrency regime with sector regulators, in contrast to the UK, perhaps reflecting a historically different approach to sector regulation. You have no specialised competition court, as we do with our Competition Appeals Tribunal (CAT), although our general courts also handle competition cases as yours do here. And in common with most competition authorities around the world, you do not have the equivalent of our markets regime, of which I will have more to say later. But there is no uniquely best way to organise competition institutions, and the diversity we see around the world gives us plenty of opportunity to learn from each other as well as feeding academic research.

This evening I want to talk about the way in which behavioural economics informs the work of the UK’s Competition and Markets Authority. But before doing that, let me briefly explain the recent changes to the UK regime. 2014 saw a major change in the UK competition regime. This was brought about by the passage of the Enterprise and Regulatory Reform Act 2013, which in my view will in time be seen as significant as the Fair Trading Act 1973, the Competition Act 1998 and the Enterprise Act 2002. Importantly given the General Election in a few weeks’ time, the reforms attracted broad support across the political spectrum.

In summary, the major changes (accompanied by lots of small ones) were as follows: the new legislation brought together the competition and consumer parts (and the majority) of the OFT with the CC, creating a single competition body, the CMA which came into legal existence in October 2013 and took its powers from April 2014 – so we have just celebrated our first birthday (1 – see footnotes at the end). It shortened the timescale for the competition investigative process and introduced statutory deadlines on parts of the process where they had not hitherto existed. It gave additional powers to the new CMA, particularly in information gathering to facilitate faster processes. It introduced modifications to the UK criminal cartel offence, removing the need to prove dishonest intent. It strengthened the UK competition concurrency regime with the sector regulators, giving the CMA an important lead role – this reflected concern that sector regulators have relied too much on their sector specific powers, and used competition powers sparingly. It gave the CMA a strengthened advocacy role for a competition focus within government, a role that has been strengthened further by giving us the right to comment on forthcoming legislation. The Act also made adjustments to the consumer protection landscape, focusing and clarifying the roles of the different consumer agencies (2).

As important as these reforms are the elements that were left unchanged by legislation. There was a debate as to whether the UK should move away from an administrative to a prosecutorial system, as in Australia, which would have been a very major change. Despite strong advocates, including within government itself, the government decided against this, although with the provision to revisit the question in 5 years’ time in the light of the performance of the new regime. The changes to the competition regime, although significant, were incremental, not fundamental. The independence of the phase 2 decision-making process, a key feature of the UK merger and markets regime, was preserved, crucially since independence of the phase 2 process is so essential to the integrity of the regime. Thus the CC system of independent panels at phase 2 was carried over into the CMA, putting the phase 1 and phase 2 processes under the same roof, but with the requirement that they have different decision-makers.

We are now more than a year into the new regime in action, and while it is far too early to claim a success we are quietly confident. The merger was accomplished successfully, although not without a few bumps along the way. Our budget was raised by some 30% at a time of deep public spending cuts, showing a real commitment by the UK government to the competition regime. With the extra resources, we have been able to dedicate more resources to enforcement, particularly in cartel cases, to deliver on our first strategic objective of delivering effective enforcement. Without effective enforcement and the consequent deterrent effects, a competition agency lacks authority. The strengthened concurrency regime is working well, and we have seen an uptick in the number of competition cases in the regulated sectors. We are undertaking 2 major market inquiries into the key sectors of energy and banking, of which a little more later. And showing our commitment to consumer protection, we are taking on the presidency of the International Consumer Protection and Enforcement Network (ICPEN) for the 12 months starting in July. Importantly we think we are on track to deliver on the aim of delivering £10 of consumer benefit for every £1 we cost. But this is measured on a rolling 3-year average, so much of this is down to cases and work that we have inherited from the OFT and CC and have completed. Our new initiatives are still work in progress. So it is too early to judge the effectiveness of the reforms, but as I said I am quietly confident.

I hope that brief overview gives you a sense of what the CMA is aiming to do. I would now like to turn to my main theme this evening: the way in which the CMA thinks about behavioural economics in relation to its competition and consumer work. I should emphasise that I am no expert in behavioural economics, or indeed in competition policy: I came to my current role via sectoral regulation, having been the founding chairman of Ofcom, the UK communications regulator. I enjoyed a career as an international macroeconomist, but I got bored with getting forecasts wrong – a successful record as a forecaster is to get 55 to 60% right, but that means you get 40 to 45% wrong. But being fascinated by the interaction between government and the private sector, I switched to regulation and I interacted with most aspects of the competition regime, but more tangentially than centrally. So I was surprised, although honoured, to find myself in my current role. So what you will get tonight is the intelligent outsider’s view.

At the heart of behavioural economics is the insight that ordinary consumers do not behave as the so-called perfectly rational consumer of neoclassical economics. (I will explain the ‘so-called’ shortly.) Thus, for example:

  • we have limited ability to process and compute information. Faced with complexity we often focus on just a subset of the product’s characteristics and so make bad decisions
  • we are very poor at relative probability assessment, not surprisingly since a lot of us don’t understand percentages, and we tend to over-estimate the likelihood of small probability events
  • our decisions are often not neutral with respect to how choices are framed: thus we will be unduly influenced in our choice of sofa by notices that say it has been discounted from £1,000 to £500 compared with if it had simply been priced at £500 at the outset
  • we are time inconsistent and exhibit hyperbolic discounting, a lack of self-control and over-confidence. So we will definitely give up smoking and drinking but tomorrow, we won’t go overdrawn, and we will go to the gym regularly
  • we care more about losses than gains and so can become inert. For example, fear of making a bad decision by switching outweighs the fact that we might well gain by switching, or makes us over-cautious in our choice of mobile package
  • we care about more than just profit maximisation, and value fairness as well

Now at one level, none of this is new. Economists have understood about bounded rationality and related phenomena for centuries. In the works of that great moral philosopher and economist, Adam Smith, writing in the middle of the 18th century, you can find early formulations of the concepts of time inconsistency, loss aversion and a tendency to over-confidence. John Stuart Mill almost exactly a century later discussed the implications of myopia. John Maynard Keynes writing some 80 years ago wrote of herd behaviour and compared investment decisions to the beauty contest: the challenge is not to choose the most beautiful person or object, whichever it may be, but to choose the person or object that the majority of other participants will judge the most beautiful. The problem of an infinite regress and possible madness is evident. And Herbert Simon wrote compellingly about bounded rationality from a systems perspective some 60 years ago and won the Nobel Prize for Economics for that.

But despite this, most standard economic analysis assumes so-called rational players. There is that ‘so-called’ again. Why? Well, the so-called rational player seems to me to be very far from rational. The complex computations required to be rational in the sense of Homo economicus are probably beyond the capacity of that most powerful computer, the human brain. And if that is not so, devoting so much processing power to this form of rationality is far from rational, if the result is to displace energy and attention paid to such things as living, loving, enjoying and learning. How many of us would regard as normal someone who actually read the terms and conditions for a service purchased online?

This is not a flippant debating point. The UK University of East Anglia’s Centre for Competition Policy undertook fascinating research on how many of us actually read the terms and conditions online – the advantage of online purchases, unlike offline, is that it is possible to analyse this with great precision. They found that only one, or possibly two, of us in a thousand actually call up the terms and conditions before ticking the accept box. And of that tiny minority, the vast majority spend so little time looking at them that they cannot have read the whole text, let alone understand it. Is that surprising, when the terms and conditions for signing up to an HSBC account run to a little more than 29,000 words and Ryanair, a well-known European airline, more than 18,000? If one of us wanted to shop around and compare the terms and conditions of 3 or 4 providers, we would have to read and comprehend text as long as, and possibly more complex, than the average PhD thesis. That most definitely puts paid to the so-called ‘informed-minority’ hypothesis of the law and economics literature, that a minority of informed consumers can act as a discipline on the terms and contracts of firms, to the benefit of all. My hunch is that those who actually read and comprehend the terms and conditions are a vanishingly small number of any company’s potential customer base, and are not amongst those they seek to woo, so that they are irrelevant to the marketing strategy of the company.

Rising back above the detail, it is worth noting that our so-called biases, notably our inadequacy with probability assessment, may well go back to our evolutionary forebears. Homo sapiens and its wonderful brain is the product of a long process of evolution, in contrast to Homo economicus which came from abstract reasoning. So should we call them biases, or just learned behaviours for survival and reproduction? It is of course particularly the work of Daniel Kahneman that has persuaded economists to pay attention to these behavioural characteristics, but it took a long time: the first key paper by Amos Tversky and Kahneman on anchoring, availability and representativeness biases was more than 40 years ago in 1974.

If I may be self-indulgent, let me briefly tell you about one of my former areas of research, in the field of dynamic macroeconomic systems. The rational expectations revolution led to a major rethink of how intelligent agents respond to macroeconomic phenomena including government policy interventions. Much of the thrust of the literature was to show how government policies were ineffective because of the adjustment of expectations to the new policy. But this was true only in a very particular class of models. I was analysing with colleagues the characteristics of control rules in more general dynamic macroeconomic models, with a view to identifying simple robust policy rules (a line of inquiry also pursued by the late James Meade, another Nobel Prize winner, with whose team we collaborated). But with a view to making the assumptions more realistic, we moved to analyse the consequences if agents had less than perfect information. With a succession of wet towels we were able to derive an analytical solution in the restricted case where agents shared the same partial information set, but for the case where information sets differed between agents we had to resort to computational methods, with the deployment of considerable computer power. This was a reductio ad absurdum: the notion that agents were acting as though they could solve this complex calculation was not tenable. And if one assumed plausibly that they adopt a simple heuristic à la Kahneman then only in very simple and unrealistic models is there any possibility of proving that learning will lead to the rational expectations equilibrium. So we had gone down a fascinating intellectual blind alley. We should have paid more heed to the systems-writings of Herbert Simon.

So what we have learnt, rather slowly, is that individual behaviour is beset with deviations from the so-called rational behaviour of neoclassical economics, and while some of these deviations can legitimately be described as biases and less than rational, others are truly rational. What are the implications for competition analysis?

One very important line of research works on the assumption that, while individual consumers exhibit these significant deviations from neoclassical rationality, firms do not. I will touch later on the question of the deviation of firm behaviour from rationality, but the assumption that firms are closer to neoclassical rationality is not implausible: they have much greater resource, they are engaged in repeated transactions with many agents in specific markets, so have a much greater incentive to devote time and resource to getting it right, and they have much greater information.

The key insight that this line of analysis throws up is this: consumers are not just not neoclassically rational, but that they are predictably so – their deviations from neoclassical rationality are predictable. And smart clued-up companies can and will exploit these predictable deviations. And their capability to do so has increased with the rise of big data and the huge computing power that can now be deployed. The result can be poor market outcomes that persist, in which consumer benefit is lower than it could be. Moreover, and critically for competition analysis, increasing the number of smart firms – increasing competition – will not necessarily improve consumer welfare; indeed it could make it worse.

Oren Bar-Gill in his book ‘Seduction by Contract’ provides a number of examples of this (3). A notable example is mobile telephony. This market displays a multitude of different contract options, which are hard to compare, in part because of lack of standardisation: for example, what is the definition of the weekend, to which a reduced tariff applies. So confused consumers abound. Hyperbolic discounting leads telecoms operators to offer supposedly free handsets, feeding our desire for the latest gizmo – I confess to this myself – paid for by higher subsequent charges. Three-part mobile phone tariffs require us to estimate our future usage. The evidence is that only a minority of us get this estimation right. Some 10 to 15% of us suffer from over-confidence and select too small a package – we then pay the high charges (quite unrelated to cost) for exceeding our chosen number of minutes. But nearly half of us are very conservative in our choice and select a package with much more usage than we need, possibly because we worry about the loss of incurring the penal charges for excess usage, possibly because we over-estimate the probability of exceeding our limit. So the large majority of us are paying excess charges in one form or another.

Oren Bar-Gill provides similar analysis and a wealth of empirical evidence in the markets for credit cards and mortgages. The importance of this for competition analysis is that, if we ignore the potential for firms to exploit predictable consumer biases, there will be occasions when:

  • we won’t understand what is driving market outcomes

  • we won’t know how to correct poor market outcomes

Let me give a number of instances of this. First, confusopoly: consumers can be overwhelmed by more information than they can process, thus potentially leading to poor decisions, as in the mobile example that I have just discussed. This is also relevant to the UK energy market, and this has led the sector regulator, Ofgem, to restrict the number of tariffs that energy customers can offer. The efficacy of this remedy is one of the issues under investigation by our current energy market inquiry.

Second, drip pricing: consumers put too much emphasis on the headline price and under-estimate the cost of ‘add-ons’. This concern motivated OFT action in 2012 on airline payment surcharges (4), which were typically only revealed at the end of the online booking process. It is also relevant to ongoing CMA work on car hire – a sector where there are common concerns about opaque or high add-on charges and where we are working with our European colleagues to address the issue, because it so often involves car hires overseas.

Third, framing problems: consumer decisions are affected by the frame of reference of the offer, and this can lead to over-valuing the product. This was explored in depth in the OFT’s 2010 market study on advertising of prices (5), which included a lab-based behavioural experiment, a consumer survey and reviews of relevant economics and psychology literature. The OFT acted on reference pricing practices in furniture retailing to ensure that advertised discounts are from a genuine and previously sustained market price, not a spurious, transient price, and obtained commitments from the retailers that the CMA is monitoring for compliance.

Fourth, inert consumers: disengaged consumers can provide firms with local market power. If there are many consumers who can’t or won’t search or switch for a better deal, then our usual assumptions about the efficacy of the competitive process may fail. This is an important issue in the CMA’s current market work on energy and banking sectors, and there have been numerous initiatives by relevant regulators and government to encourage consumer search and switching in these sectors to counter inertia. They include in the case of energy, requirements to promote information on annual usage and prompts to consider switching, while in the case of banking, the faster current account switching service and the midata current account comparison data.

Now, of course, the market can self-correct. Thus intermediaries and comparison tools can help solve confusopoly problems. Consumers can learn that their biases are being exploited and respond accordingly: we all now know to look beyond airline headline prices.

And there is solid empirical evidence of such learning (6). In the US, in 2006 there was an important expansion of Medicare, which gave millions of the retired access to subsidised prescription drugs at a cost of over $60 billion a year. Provision was by numerous competing insurers. In each of the 34 regions of the US, older people had to choose between some 50 plans a year – and the resulting data set provided rich pickings for econometricians. (I used to be one so I know the buzz.) In the first year of the scheme, many people chose the wrong scheme, sometimes paying an excess of up to $500 or more. But importantly the analysis by Kercham and his team showed that those who overpaid between $300 and $500 a year switched and the distribution of overpayments fell significantly in the next year (7). Consumers can learn when it really matters.

Moreover, suppliers may wish to bolster brand reputation, and this may provide an incentive not to exploit consumer biases. And in some cases it may only require a minority of informed and active consumers to provide sufficient price arbitrage to ensure a good market outcome for all.

But importantly there is the real possibility that a market correction is not forthcoming. Consumers will find it hard to adjust their biases when purchases are infrequent, so that learning is limited. If the losses are small for each individual but spread across a very large number, the consumer detriment may be appreciable but not enough to trigger a response by individual consumers. And if consumers do learn and adjust, they may find the companies one step ahead as they deploy increasing processing power to find new and better ways of playing the game – the world of big data. If consumers can be offered different prices, as can happen in offline markets but is increasingly prevalent in online markets, then active consumers will not protect the inert: indeed on the contrary, competitive markets may well mean that active consumers benefit at the expense of the inert. And if all firms seek to exploit the bias, then increasing the number of firms will not help – indeed there are theoretical models that suggest more firms may worsen the market outcome.

If that is the case, then the standard competition remedies of removing barriers to entry to enhance competition and increasing transparency and consumer information may well not be adequate, and there is a need to look for other remedies that may shift the market equilibrium to a better place. But, and this leads me on to my final theme – the UK markets regime – the design of such remedies is not easy because all too easily interventions can have counter-productive effects.

Thus, for example, if firms have an incentive to create complex price structures (confusopoly) in order to generate consumer inertia – rabbits in headlight come to mind – then regulators may impose simplified pricing to cater for consumers’ bounded rationality. However, care is needed: reducing complexity may harm consumers because if consumers have different preferences, relatively complex offers might be optimal. Simplified pricing may also facilitate tacit collusion.

With drip pricing, if consumers over-estimate the importance of the headline price, the firm that unilaterally advertises an honest headline price will go out of business. Increasing competition may therefore not be the solution. That is why the OFT’s approach to airline payment surcharges was to ensure enforcement action had good coverage of main operators, shifting market practice to a better outcome. Similarly with framing issues, as we have seen fake reference pricing can lead to consumers over-valuing the product. But there is no incentive for an individual firm to price differently as this would adversely affect the perceived value of its product. That is why the OFT had to carefully orchestrate a coordinated move by some of the major furniture retailers to conform to guidelines that required a genuine reference price.

In the case of inert consumers, where firms can price discriminate between disengaged and engaged consumers, suppliers may have ‘local’ market power. This might be considered a competition problem if disengaged consumers are ‘exploited’. However, it is important to ask why they are disengaged: are they lazy or unable to engage? There is a danger that protecting disengaged consumers reduces the incentive for any consumers to be engaged, which would remove the disciplining effect of marginal consumers. In the case of the UK energy market, retail competition was introduced into a market which was hitherto made up of a set of regional monopoly supply companies (the RECs). Competition took the form of each REC competing with other monopoly incumbents, often neighbouring ones. But many inert customers simply stayed with their traditional supplier. So inevitably competition resulted in lower prices being offered by the RECs outside their traditional market than inside, a form of geographical price discrimination. But in effect, the rationale was not geographic discrimination, but rather discrimination between active and inert customers. In the face of some political pressure, Ofgem, the energy regulator, banned geographic discrimination. In the view of some analysts, this led to a considerable diminution of effective competition and increased prices. Whether this analysis is correct is part of what our energy market inquiry will establish, but the possibility is clear.

There is also the need to protect inherently vulnerable consumers, for example in marketing to children. The OFT, working closely with international partners, did important work in specifying principles on the advertising, marketing content and payments mechanisms for children’s online and app-based games, where there was very clear potential concern about abuse, and the CMA is monitoring compliance.

I have so far focused on the consumer as the source of behavioural biases. But of course we could also assume that a firm is subject to similar biases, and there would be good grounds for doing so. There is a solid body of literature that suggests that a majority of mergers reduce, rather than enhance, shareholder value, suggesting that the neoclassical assumption of maximising shareholder value is a bit detached from reality: perhaps CEO egos, short-termism and other behaviours have an important part to play. There are many principal-agent problems – not least in the complicated issues around designing incentive-favourable remuneration packages, where remuneration committees (remcos) face the incredibly difficult signal extraction problem in distinguishing real underlying performance from the effect of random events, helpful or otherwise – I speak with the experience and scars of sitting on UK PLC remcos. The principal-agent issues raised by shareholder/management relationships abound, going back to the writings of Adolf Berle and Gardiner Means in the 1930s and before and an abundant subsequent literature. And as a not so young rookie lecturer in economics I was brought up on the sophisticated, very non-neoclassical Cambridge view of the firm provided by Adrian Woods’s ‘The Theory of Profits’.

As yet the literature on the implications of behavioural economics for firm behaviour is under-developed, although we can expect it to expand. But there is one key point worth noting: small and medium-sized enterprises (SMEs) are probably closer to individual, than corporate, behaviour. Compared with the large corporation, SMEs typically have scarce skilled resource, their transactions are more sporadic, their information is limited and their access to high volume data processing and analytics is limited. So they may be much more like individual consumers, so that their biases risk being used by large companies, just as for individual consumers. That is one reason why our independent phase 2 market inquiry into banking combines personal and SME banking, and it will be interesting to see what light it sheds on this.

So the behavioural economics literature suggests that we should spread the search for remedies wider than the traditional ones of more information and enhanced competition, not that these should be neglected. Consideration of behavioural economics shifts the focus from simply the provision of more information to the need to help consumers to access information, assess information and act on information. Information remedies that do not meet these criteria will not solve competition problems, for example information not read, too complicated, or perceived to be too much hassle. The history in the UK is that information remedies have not always been very successful. Initial information remedies applied to the sale of extended warranties for electrical goods were considered fairly ineffective, and led to the separation in time of the sale of the product from the sale of the warranty.

It is important to make sure that consumers focus on the right bit of information. Consider the US Federal Trade Commission’s study of a proposed remedy on mortgage broker payments: the concern was that brokers just recommended the mortgages on which they earned the most commission. Thus the remedy was that they had to tell potential customers what their commission was on each product. The result was that, when this proposed remedy was trialled, consumers focused on broker commissions, rather than the total cost of mortgage, and this led to worse decision making.

So policy interventions, if they are to be successful, need to be grounded in a very granular understanding of how individual markets work and how consumers behave in the particular market context that they face. Given the growing importance of online markets, a major priority for the CMA is to understand how consumers behave online and how such behaviour might be exploited to their detriment. If such detriment is found, we will explore how it may be remedied without throwing away the huge consumer benefit that we all derive from the internet and ubiquitous connectivity. Amongst other work, we are currently reviewing the responses to our calls for information on the use of consumer data and on online reviews and endorsements.

The careful design of remedies is therefore critical. And this leads me straight to my final theme this evening: the UK markets regime. This regime was introduced by the Enterprise Act 2002, and it, and I would say our remedial powers in particular, is unusual around the world: Mexico has adopted a form of it, while I understand the Harper Review in Australia has recommended a market study regime, but administered by a different agency than the ACCC and I understand without remedial powers. We are proud of this regime, which is widely respected in the UK, and I would like to explain why.

The key tools of the UK market regime are the market studies and market inquiries. Market studies are the phase 1 tool deployed hitherto by the OFT: these may lead to changes in market practice through agreed undertakings as a consequence of the investigation, or to a referral to a phase 2 market inquiry (hitherto undertaken by the CC). The key point about these market tools is that there is no presumption that anyone is behaving illegally (although an inquiry may uncover such behaviour) or that the market is not working well, but if it is not, it can be improved. The Enterprise Act gave the CC the power to impose proportionate and appropriate remedies to improve market performance, and that power has passed to the CMA.

This is a very powerful tool. First, there is the point that, while markets represent the most effective way to organise complex and dispersed economic activity, markets do not always work well. This may be because there are impediments, such as entry barriers, to competition. It may also be because competition takes a malign form, with businesses competing to gouge, rather than serve, customers, as I have discussed. Second, there is the point that designing market interventions that enhance market performance is a complex, difficult and time-consuming task, and one that is best done calmly and out of the political spotlight. And that is particularly so because it requires a lot of careful analysis to avoid interventions that have unconsidered consequences.

A question that is frequently asked about this regime is why business is accepting of it – given that no one is doing anything illegal, what is the basis for intervention? There are several possible answers. The first is that most businesses in my experience want to serve their customers well. They may not welcome being locked into a competitive dynamic that forces them to adopt behaviours that do not, for fear of being driven out of business. Well-judged interventions that move the market to a better place may for this reason be welcomed. Second, the alternative may be worse. If a key market, such as energy or banking, is not working well, there is a real risk of political intervention, not always well-considered, and the alternative of a well-founded intervention by an objective and independent authority may reasonably be considered a better alternative. Third, the process, especially at phase 2 where remedies may be imposed, is rigorous, predictable, transparent and very much evidence-based, with plenty of opportunity for market players and consumers to make representations and be heard. There is also a rigorous appeals process that is well-used. The regime has evolved steadily over several decades and continues to evolve: thus recent CAT rulings have led us to become even more careful to allow parties appropriate access to data used in the inquiry. And there is a clear rationale for a regime that allows the imposition of proportionate remedies that improve outcomes for consumers in markets that are working badly for consumers.

Thus the regime commands considerable respect from business, consumer groups and politicians, and this was reflected in the 2 references to phase 2 of the energy and banking markets. The range of remedies available is wide, and it is important to emphasise that the full range has been used, including where appropriate structural remedies, as in the BAA case, where our main operator was required to sell 3 of its airports.

All market inquiries thus far have resulted in behavioural remedies but not all of the concerns identified initially in an inquiry have been remedied. This was either because it was concluded there was no serious consumer detriment or because any viable remedy that could have been devised would have been disproportionate to the consumer detriment suffered. Thus in the motor insurance inquiry, there was found to be a detriment arising from the fact that those commissioning the repairs – the injured party – do not bear the cost of repairs, which are borne by the insurance company of the party at fault. This means that there is some incentive for the cost of repairs to become inflated. However, despite identifying this market malfunction, the inquiry found that there was no effective and proportionate remedy which would rectify it, given that the magnitude of the detriment was relatively small and any remedy would make other matters worse. Therefore we did not intervene. We also identified a detriment in respect of replacement vehicle costs; however, in that case, we could only devise a remedy to address the problem that would have required a change in the law, which in the particular circumstances would have been disproportionate.

Central to the effectiveness of the markets regime is the devising of effective remedies. That is no easy task. One of the things that behavioural economics demonstrates is that small changes in design can make big differences in effectiveness, and that these effects are far from intuitive. This underscores the market-testing of remedies before imposition. In the inquiry into payday lending, we undertook consumer research, based on focus groups and in-depth interviews, into what the ideal design of a price comparison website might be. A generic website was designed and used with customers to explore, amongst other things, how information should be presented to enable consumers to make an effective comparison, at what stage of the consumer’s shopping journey a pop-up sign-posting consumers to a price comparison website (PCW) was most likely to result in consumers accessing the PCW, and similar types of pop-ups were tested to understand which would be most effective in warning consumers that they had landed on a lead generator website rather than a lender’s one (a failure of consumers to distinguish these 2 types of sites lay at the heart of one identified source of serious consumer detriment in this market). Our inquiry into private motor insurance conducted qualitative research to test proposed remedies, using focus groups and telephone interviews. And it may be possible to do still more to use more formal experimental testing and piloting to test and hone potential remedies. If remedies are judged appropriate, it will be interesting to see if this possibility is explored in our current energy and banking inquiries.

However, what can be done by way of experimentation and design is constrained by the statutory requirement to publish final remedies within 6 months of publication of our market investigation report. This means that remedies will be need to be specified early, quickly and well. Skill in this is vital to the effectiveness of the regime, and the CMA is fortunate to have inherited strong expertise from the CC and OFT, as well as adding to that strength through recruitment.

To conclude, I hope I have given you a sense of the importance of the recent reforms to the UK competition and consumer regime, the reasons why the CMA is continuing to enhance its understanding of the implications of behavioural economics for its competition and consumer work, and why this provides a powerful justification for the UK markets regime which continues largely unchanged, though strengthened, under the auspices of the CMA. I look forward to taking questions. And longer term, I look forward to and value the continued cooperation between us and you, the New Zealand Commerce Commission, as we face similar and shared challenges in competition policy and continue to learn and collaborate bilaterally and through networks such as the OECD and ICN. Ensuring that markets work well for consumers, our common goal, is increasingly a global matter, which is why our effective cooperation is so important. Thank you.


I am grateful to a number of CMA colleagues for their assistance in preparing this speech, in particular, to Alex Chisholm, Mike Walker, Ian Windle, Antonia Horrocks, Daniel Gordon, Alasdair Smith, Andrew Wright and Roland Green.

  1. In a parallel move the credit function of the OFT went not to the CMA but to the new financial regulator, the Financial Conduct Authority.
  2. For more detailed expositions of the changes, see David Currie’s speech given to the Beesley Lectures in November 2013, and David Currie, Alex Chisholm and Tim Jarvis, ‘Institutional Design and Decision-making in the Competition and Markets Authority’, Competition Policy International, Spring 2014.
  3. Oren Bar-Gill, ‘Seduction by Contract’, Oxford University Press, 2012.
  4. OFT Airlines/Payment Surcharges: Investigation into pricing practices by 14 airlines.
  5. OFT market study: Advertising of prices.
  6. See submission by the University of East Anglia’s Centre for Competition Policy provided in July 2014 in response to the CMA’s consultation on its Strategic Assessment.
  7. Ketcham, J., C. Lucarelli, E. Miravete, and M. C. Roebuck, 2012, ‘Sinking, Swimming, or Learning to Swim in Medicare Part D?’ American Economic Review, 102 (6), 2639–73.
Published 21 April 2015