A Model of Sliding-Scale Regulation
Price caps, while widely touted, are less commonly implemented. Most incentive schemes involve profit sharing and are thus variants of sliding-scale regulation. I show that, relative to price caps, some degree of profit sharing always increases expected welfare. Numerical simulations show that welfare may be enhanced by large amounts of profit sharing and by granting the firm a greater share of gains than of losses. Simulations also suggest profit sharing is most beneficial when the firm's initial cost is high and cost-reducing innovations are difficult to achieve but offer the potential for substantial savings. Copyright 1996 by Kluwer Academic Publishers
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