Price Regulation, Investment and the Commitment Problem
We consider a dynamic model of price regulation with asymmetric information where strategic delegation is available to the regulator. Firms can sink non-contractible, cost-reducing investment but regulators cannot commit to future price levels. We fully characterise the perfect Bayesian equilibrium and show that, with incentive contracts and no delegation, under-investment occurs. We then show that delegation to a suitable regulator can both improve investment incentives and ameliorate the ratchet effect by credibly offering the firm future rent. Simulations indicate significant welfare gains from these two effects and that a wide range of regulatory preferences can achieve this result.
|Date of creation:||May 2003|
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International Economic Review,
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10-93, Tel Aviv - the Sackler Institute of Economic Studies.
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Springer, vol. 7(3), pages 233-54, May.
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