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Mixed duopoly, privatization and the shadow cost of public funds

  • CAPUANO, Carlo

    (University of Naples Federico II)

  • DE FEO, Giuseppe

    (Université catholique de Louvain (UCL). Center for Operations Research and Econometrics (CORE))

The purpose of this paper is to investigate the effect of privatization in a mixed duopoly, where a private firm competes in quantities with a welfare-maximizing public firm. We consider two inefficiencies of the public sector: a possible cost inefficiency, and an allocative inefficiency due to the distortionary effect of taxation (shadow cost of public funds). Furthermore, we analyze the effect of privatization on the timing of competition by endogenizing the determination of simultaneous (Nash-Cournot) versus sequential (Stackelberg) games using the model developed by Hamilton and Slutsky (1990). The latter is especially relevant for the analysis of privatization, given that results and policy prescription emerged in the literature crucially rely on the type of competition assumed. We show that privatization has generally the effect of shifting from Stackelberg to Cournot equilibrium and that, absent efficiency gains privatization never increases welfare. Moreover, even when large efficiency gains are realized, an inefficient public firm may be preferred.

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Paper provided by Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) in its series CORE Discussion Papers with number 2008019.

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Date of creation: 01 Mar 2008
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Handle: RePEc:cor:louvco:2008019
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