IDEAS home Printed from https://ideas.repec.org/p/edj/ceauch/79.html
   My bibliography  Save this paper

How to Auction an Essential Facility when Underhand Integration is Possible

Author

Listed:
  • Eduardo Engel

    ()

  • Ronald Fischer

    ()

  • Alexander Galetovic

    ()

Abstract

There are many industries in which potentially competitive segments require services provided by natural monopoly bottlenecks (essential facilities). Since it is difficult to regulate these facilities, developing countries are using Demsetz auctions, where the facility is awarded to the firm that bids the lowest user fee. In this paper we show that when underhand agreements between the monopoly bottleneck and downstream firms are possible, Demsetz auctions need floors on bids, since otherwise welfare can be lower than with an unregulated monopoly. We model an underhand agreement using a standard hidden information model. The essential facility is an uninformed principal randomly matched to a downstream company, which observes its costs after closing the underhand agreement. When the essential facility prefers the option of vertical separation, there is downstream competition, which implies that only low cost firms survive. We find that a sufficiently high floor on bids promotes vertical separation, yielding higher welfare than either an unregulated or a vertically integrated monopoly. Moreover, prohibiting open vertical integration means this floor can be lower, thus enhancing welfare. The incentive compatibility constraints required by underhand agreements imply rent sharing and production distortions that make vertical integration less attractive.

Suggested Citation

  • Eduardo Engel & Ronald Fischer & Alexander Galetovic, 2000. "How to Auction an Essential Facility when Underhand Integration is Possible," Documentos de Trabajo 79, Centro de Economía Aplicada, Universidad de Chile.
  • Handle: RePEc:edj:ceauch:79
    as

    Download full text from publisher

    File URL: http://www.dii.uchile.cl/~cea/sitedev/cea/www/download.php?file=documentos_trabajo/ASOCFILE120030328124504.pdf
    Download Restriction: no

    Other versions of this item:

    References listed on IDEAS

    as
    1. Lee, Sang Hyup & Hamilton, Jonathan H, 1999. "Using Market Structure to Regulate a Vertically Integrated Monopolist," Journal of Regulatory Economics, Springer, vol. 15(3), pages 223-248, May.
    2. Jean-Jacques Laffont & Jean Tirole, 2001. "Competition in Telecommunications," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262621509, January.
    3. Besanko, David, 1985. "Multi-period contracts between principal and agent with adverse selection," Economics Letters, Elsevier, vol. 17(1-2), pages 33-37.
    4. Economides, Nicholas, 1999. "Quality choice and vertical integration," International Journal of Industrial Organization, Elsevier, vol. 17(6), pages 903-914, August.
    5. Lourdes Trujillo & Gustavo Nombela, 2000. "Multiservice Infrastructure : Privatizing Port Services," World Bank Other Operational Studies 11417, The World Bank.
    6. Eduardo M. R. A. Engel & Ronald D. Fischer & Alexander Galetovic, 2001. "Least-Present-Value-of-Revenue Auctions and Highway Franchising," Journal of Political Economy, University of Chicago Press, vol. 109(5), pages 993-1020, October.
    7. Daniel F. Spulber, 1989. "Regulation and Markets," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262192756, January.
    8. Economides, Nicholas, 1998. "The incentive for non-price discrimination by an input monopolist," International Journal of Industrial Organization, Elsevier, vol. 16(3), pages 271-284, May.
    9. Juan Foxley & José Luis Mardones, 2000. "Port Concessions in Chile : Contract Design to Promote Competition and Investment," World Bank Other Operational Studies 11418, The World Bank.
    10. Vickers, John, 1995. "Concepts of Competition," Oxford Economic Papers, Oxford University Press, vol. 47(1), pages 1-23, January.
    11. Riordan, Michael H & Sappington, David E M, 1987. "Awarding Monopoly Franchises," American Economic Review, American Economic Association, vol. 77(3), pages 375-387, June.
    12. Harstad, Ronald M & Crew, Michael A, 1999. "Franchise Bidding without Holdups: Utility Regulation with Efficient Pricing and Choice of Provider," Journal of Regulatory Economics, Springer, vol. 15(2), pages 141-163, March.
    13. Oliver E. Williamson, 1976. "Franchise Bidding for Natural Monopolies -- in General and with Respect to CATV," Bell Journal of Economics, The RAND Corporation, vol. 7(1), pages 73-104, Spring.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Engel, Eduardo & Fischer, Ronald & Galetovic, Alexander, 2005. "Highway franchising and real estate values," Journal of Urban Economics, Elsevier, vol. 57(3), pages 432-448, May.
    2. Eduardo Engel & Ronald Fischer & Alexander Galetovic, 2002. "Competition In or For the Field: Which Is Better?," Cowles Foundation Discussion Papers 1358, Cowles Foundation for Research in Economics, Yale University, revised Jul 2007.
    3. Rodrigo Gutierrez & Pablo Serra & Ronald Fischer, 2003. "The Effects of Privatization on Firms and on Social Welfare: The Chilean Case," Research Department Publications 3150, Inter-American Development Bank, Research Department.
    4. Alexander Galetovic, 2003. "Integración Vertical en el Sector Eléctrico: Una guía para el usuario (Vertical integration in the electricity sector)," Documentos de Trabajo 158, Centro de Economía Aplicada, Universidad de Chile.
    5. Ronald Fischer & Rodrigo Gutiérrez & Pablo Serra, 2002. "The Effects of Privatization on Firms and on Social Welfare," Documentos de Trabajo 131, Centro de Economía Aplicada, Universidad de Chile.

    More about this item

    JEL classification:

    • D44 - Microeconomics - - Market Structure, Pricing, and Design - - - Auctions
    • L12 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Monopoly; Monopolization Strategies
    • L92 - Industrial Organization - - Industry Studies: Transportation and Utilities - - - Railroads and Other Surface Transportation

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:edj:ceauch:79. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (). General contact details of provider: http://edirc.repec.org/data/ceuclcl.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.