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Quality competition with profit constraints: Do non-profit firms provide higher quality than for-profit firms?

  • Brekke, Kurt Richard
  • Siciliani, Luigi
  • Straume, Odd Rune

In many markets, such as education, health care and public utilities, firms are often profit-constrained either due to regulation or because they have non-profit status. At the same time such firms might have altruistic concerns towards consumers. In this paper we study semi-altruistic firms’ incentives to invest in quality and cost-reducing effort when facing constraints on the distribution of profits. Using a spatial competition framework, we derive the equilibrium outcomes under both quality competition with regulated prices and quality-price competition. Profit constraints always lead to lower cost-efficiency, whereas the effects on quality and price are ambiguous. If altruism is high (low), profit-constrained firms offer higher (lower) quality and lower (higher) prices than firms that are not profit-constrained. Compared with the first-best outcome, the cost-efficiency of profit-constrained firms is too low, while quality might be over- or underprovided. Profit constraints may improve welfare and be a complement or substitute to a higher regulated price, depending on the degree of altruism.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 8284.

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Date of creation: Mar 2011
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Handle: RePEc:cpr:ceprdp:8284
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