A Simple Model of Reliability, Warranties, and Price-Capping
The paper presents a model of reliability which captures the process by which reliability is actually determined more accurately than the conventional analysis. In contrast to that conventional analysis, which is based on the characteristics approach, the model of this paper defines reliability as the objective probability of product failure, not as a characteristic of individual goods. Reliability, thus defined, is treated as a choice variable of the firm. The resulting model is applied to a monopolist subject to a price cap. The monopolist can vary reliability and the terms of a warranty or compensation deal in response to price-capping. The monopoly outcome, price-capped monopoly outcome, and Pareto-efficient outcome are compared. The model provides a theoretical explanation of some empirical results in the literature on electricity regulation.
Volume (Year): 5 (2006)
Issue (Month): 1 (April)
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- Grossman, Sanford J, 1981. "The Informational Role of Warranties and Private Disclosure about Product Quality," Journal of Law and Economics, University of Chicago Press, vol. 24(3), pages 461-483, December.
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Levine's Working Paper Archive
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Elsevier, vol. 16(3), pages 175-183, July.
- Fraser, Rob, 1994. "Price, Quality, and Regulation: An Analysis of Price-Capping and the Reliability of Electricity Supply," 1994 Conference (38th), February 8-10, 1994, Wellington, New Zealand 148211, Australian Agricultural and Resource Economics Society.
- Carl Shapiro, 1983. "Premiums for High Quality Products as Returns to Reputations," The Quarterly Journal of Economics, Oxford University Press, vol. 98(4), pages 659-679.
- Matsukawa, Isamu & Fujii, Yoshifumi, 1994. "Customer Preferences for Reliable Power Supply: Using Data on Actual Choices of Back-Up Equipment," The Review of Economics and Statistics, MIT Press, vol. 76(3), pages 434-446, August.
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