Can regulation increase firm's efficiency?

Giuseppe Coco and Claudio De Vincenti

No 60, Working Papers in Public Economics from Department of Economics and Law, Sapienza University of Roma

Abstract: This paper examines the possibility that regulation actually increases a monopolist’s cost-efficiency. When the firm’s cost-reducing effort depends on the output supplied, a binding price-cap, by compelling the monopolist to produce more, finally results in lower costs. On the basis of a two-period asymmetric information model with a repeated choice of effort, the paper demonstrates that regulation increases efficiency when the elasticity of demand is sufficiently low, even assuming very conservative preferences and a very poor information set for the regulator. Moreover, contrary to previous findings and conventional wisdom, we find that a periodical rate base review exerts also a positive effect on future cost-reducing effort countervailing the well known ratchet effect.

Keywords: Price-cap; regulatory lag. (search for similar items in EconPapers)
JEL-codes: D42 L51 (search for similar items in EconPapers)
Pages: 29
Date: 2002-02
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