Concavity Assumptions in Regulatory Models and the Capital Waste Controversy

Larry Robert Blank

Journal of Regulatory Economics, 1996, vol. 9, issue 1, 95-100

Abstract: Sherman (1992) concludes that "the wasteful use of capital [by a rate-of-return constrained monopolist] is motivated to avoid an inelastic region of demand." Previous analyzes of capital waste by regulated firms often employ models with concavity restrictions on the profit and production functions. Here we demonstrate that these conventional assumptions in Averch-Johnson type models require demand to be everywhere elastic, ruling out the "avoidance" motive emphasized by Sherman. Although these highly restrictive assumptions are suitable for studying inefficient input mix, they are inappropriate when considering investment in unproductive capital. Copyright 1996 by Kluwer Academic Publishers

Date: 1996
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