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The Informative Role of Subsidies

Author

Listed:
  • Ana Espinola-Arredondo
  • Felix Munoz-Garcia

    (School of Economic Sciences, Washington State University)

Abstract

This paper investigates the effect of monopoly subsidies on entry deterrence. We consider a potential entrant who observes two signals: the subsidy set by the regulator and the output level produced by the incumbent firm. We show that not only an informative equilibrium can be supported, where information about the incumbent's costs is conveyed to the entrant, but also an uninformative equilibrium, where the actions of regulator and incumbent conceal the monopolist's type, thus deterring entry. While the regulator?s role can support entry-deterrence practices, we demonstrate that his presence is nonetheless welfare improving. Furthermore, we compare equilibrium welfare relative to two benchmarks: complete information environments, and standard entry-deterrence games where the regulator is absent.

Suggested Citation

  • Ana Espinola-Arredondo & Felix Munoz-Garcia, 2011. "The Informative Role of Subsidies," Working Papers 2011-10, School of Economic Sciences, Washington State University.
    • Handle: RePEc:wsu:wpaper:espinola-10
    as

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    File URL: http://faculty.ses.wsu.edu/WorkingPapers/AnaEspinola/WP2011-10.pdf
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    References listed on IDEAS

    as
    1. Baron, David P & Myerson, Roger B, 1982. "Regulating a Monopolist with Unknown Costs," Econometrica, Econometric Society, vol. 50(4), pages 911-930, July.
    2. Lewis, Tracy R. & Sappington, David E. M., 1989. "Countervailing incentives in agency problems," Journal of Economic Theory, Elsevier, vol. 49(2), pages 294-313, December.
    3. David B. Ridley, 2008. "Herding versus Hotelling: Market Entry with Costly Information," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 17(3), pages 607-631, September.
    4. Albaek, Svend & Overgaard, Per Baltzer, 1994. "Advertising and pricing to deter or accommodate entry when demand is unknown: Comment," International Journal of Industrial Organization, Elsevier, vol. 12(1), pages 83-87, March.
    5. Dixit, Avinash K & Kyle, Albert S, 1985. "The Use of Protection and Subsidies for Entry Promotion and Deterrence," American Economic Review, American Economic Association, vol. 75(1), pages 139-152, March.
    6. Joseph E. Harrington Jr., 1987. "Oligopolistic Entry Deterrence under Incomplete Information," RAND Journal of Economics, The RAND Corporation, vol. 18(2), pages 211-231, Summer.
    7. Austan Goolsbee & Chad Syverson, 2008. "How Do Incumbents Respond to the Threat of Entry? Evidence from the Major Airlines," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 123(4), pages 1611-1633.
    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

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    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • H23 - Public Economics - - Taxation, Subsidies, and Revenue - - - Externalities; Redistributive Effects; Environmental Taxes and Subsidies
    • L12 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Monopoly; Monopolization Strategies
    • Q5 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics

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