Price Regulation, Investment and the Commitment Problem

Paul Levine () and Neil Rickman

No 603, Department of Economics Discussion Papers from Department of Economics, University of Surrey

Abstract: 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.

Keywords: under-investment; commitment; price regulation (search for similar items in EconPapers)
JEL-codes: L51 (search for similar items in EconPapers)
Date: Written 2003-05
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Working Paper: Price Regulation, Investment and the Commitment Problem (2002)
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