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Competition and quality in regulated markets: a differential-game approach

We investigate the effect of competition on quality in regulated markets (e.g., health care, higher education, public utilities) taking a differential game approach, in which quality is a stock variable. Using a Hotelling framework, we derive the open-loop solution (providers commit to an optimal investment plan at the initial period) and the closed-loop solution (providers move investments in response to the dynamics of the states). If the marginal provision cost is constant, the open-loop and closed-loop solutions coincide, implying that static models are robust to a dynamic specification. If the marginal provision cost is increasing, investment and quality are lower in the closed-loop solution: in fact, quality drops to the minimum level in steady state, implying that quality competition is effectively eliminated. In this case, static models tend to exaggerate the positive effect of competition on quality. Our results can explain the mixed empirical evidence on competition and quality for regulated markets.

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Paper provided by NIPE - Universidade do Minho in its series NIPE Working Papers with number 08/2008.

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Date of creation: 2008
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Handle: RePEc:nip:nipewp:08/2008
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  1. Barros, Pedro Luis Pita & Martinez-Giralt, Xavier, 2000. "Public and Private Provision of Health Care," CEPR Discussion Papers 2491, C.E.P.R. Discussion Papers.
  2. Chalkley, M. & Malcomson, J.M., 1995. "Contracting for health services with unmonitored quality," Discussion Paper Series In Economics And Econometrics 9510, Economics Division, School of Social Sciences, University of Southampton.
  3. Chalkley, M. & Malcomson, J.M., 1995. "Contracting for health services when patient demand does not reflect quality," Discussion Paper Series In Economics And Econometrics 9514, Economics Division, School of Social Sciences, University of Southampton.
  4. Kurt R. Brekke & Robert Nuscheler & Odd Rune Straume, 2006. "Quality and Location Choices under Price Regulation," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 15(1), pages 207-227, 03.
  5. Gravelle, Hugh, 1999. "Capitation contracts: access and quality," Journal of Health Economics, Elsevier, vol. 18(3), pages 315-340, June.
  6. Epple, Dennis & Romano, Richard E, 1998. "Competition between Private and Public Schools, Vouchers, and Peer-Group Effects," American Economic Review, American Economic Association, vol. 88(1), pages 33-62, March.
  7. Dranove, David & White, William D, 1994. "Recent Theory and Evidence on Competition in Hospital Markets," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 3(1), pages 169-209, Spring.
  8. Daniel P. Kessler & Mark B. McClellan, 2000. "Is Hospital Competition Socially Wasteful?," The Quarterly Journal of Economics, MIT Press, vol. 115(2), pages 577-615, May.
  9. Nuscheler, Robert, 2002. "Physician reimbursement, time-consistency and the quality of care
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  10. Matsumura, Toshihiro & Matsushima, Noriaki, 2007. "Congestion-reducing investments and economic welfare in a Hotelling model," Economics Letters, Elsevier, vol. 96(2), pages 161-167, August.
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  12. Martin Gaynor, 2006. "What Do We Know About Competition and Quality in Health Care Markets?," NBER Working Papers 12301, National Bureau of Economic Research, Inc.
  13. Konigbauer, Ingrid, 2007. "Advertising and generic market entry," Journal of Health Economics, Elsevier, vol. 26(2), pages 286-305, March.
  14. Tay, Abigail, 2003. " Assessing Competition in Hospital Care Markets: The Importance of Accounting for Quality Differentiation," RAND Journal of Economics, The RAND Corporation, vol. 34(4), pages 786-814, Winter.
  15. Hugh Gravelle & Giuliano Masiero, . "Quality incentives in a regulated market with imperfect information and switching costs: capitation in general practice," Discussion Papers 00/18, Department of Economics, University of York.
  16. De Fraja, Gianni, 2000. "Contracts for health care and asymmetric information," Journal of Health Economics, Elsevier, vol. 19(5), pages 663-677, September.
  17. repec:cup:cbooks:9780521337465 is not listed on IDEAS
  18. Asher Wolinsky, 1994. "Regulation of Duopoly: Managed Competition vs. Regulated Monopolies," Discussion Papers 1116, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  19. Gianni De Fraja & Pedro Landeras, . "Could Do Better: The Effectiveness of Incentives and Competition in Schools," Discussion Papers 02/11, Department of Economics, University of York.
  20. Rey, Elena Del, 2001. "Teaching versus Research: A Model of State University Competition," Journal of Urban Economics, Elsevier, vol. 49(2), pages 356-373, March.
  21. Kurt R. Brekke & Michael Kuhn, 2005. "Direct to Consumer Advertising in Pharmaceutical Markets," CESifo Working Paper Series 1493, CESifo Group Munich.
  22. Thomas P. Lyon, 1999. "Quality Competition, Insurance, and Consumer Choice in Health Care Markets," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 8(4), pages 546-580, December.
  23. Beitia, Arantza, 2003. "Hospital quality choice and market structure in a regulated duopoly," Journal of Health Economics, Elsevier, vol. 22(6), pages 1011-1036, November.
  24. Ching-to Albert Ma & James F. Burgess Jr., 1992. "Quality Competition, Welfare, and Regulation," Papers 0024, Boston University - Industry Studies Programme.
  25. Karlsson, Martin, 2007. "Quality incentives for GPs in a regulated market," Journal of Health Economics, Elsevier, vol. 26(4), pages 699-720, July.
  26. Dee, Thomas S., 1998. "Competition and the quality of public schools," Economics of Education Review, Elsevier, vol. 17(4), pages 419-427, October.
  27. Economides, Nicholas, 1989. "Quality variations and maximal variety differentiation," Regional Science and Urban Economics, Elsevier, vol. 19(1), pages 21-29, February.
  28. Caroline M. Hoxby, 2000. "Does Competition among Public Schools Benefit Students and Taxpayers?," American Economic Review, American Economic Association, vol. 90(5), pages 1209-1238, December.
  29. Sloan, Frank A., 2000. "Not-for-profit ownership and hospital behavior," Handbook of Health Economics, in: A. J. Culyer & J. P. Newhouse (ed.), Handbook of Health Economics, edition 1, volume 1, chapter 21, pages 1141-1174 Elsevier.
  30. Brekke, Kurt R. & Nuscheler, Robert, 2003. "Gatekeeping in health care," Working Papers in Economics 10/03, University of Bergen, Department of Economics.
  31. Shen, Yu-Chu, 2003. "The effect of financial pressure on the quality of care in hospitals," Journal of Health Economics, Elsevier, vol. 22(2), pages 243-269, March.
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  33. De Fraja, Gianni & Iossa, Elisabetta, 2002. "Competition among Universities and the Emergence of the Elite Institution," Bulletin of Economic Research, Wiley Blackwell, vol. 54(3), pages 275-93, July.
  34. Economides, Nicholas, 1993. "Quality variations in the circular model of variety-differentiated products," Regional Science and Urban Economics, Elsevier, vol. 23(2), pages 235-257, April.
  35. Dockner, Engelbert J, 1992. "A Dynamic Theory of Conjectural Variations," Journal of Industrial Economics, Wiley Blackwell, vol. 40(4), pages 377-95, December.
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