Location via proxy:   [ UP ]  
[Report a bug]   [Manage cookies]                
IDEAS home Printed from https://ideas.repec.org/p/sap/wpaper/wp72.html
   My bibliography  Save this paper

Cost Padding in Regulated Markets with Demand Uncertainty

Author

Listed:
  • Debora Di Gioacchino

Abstract

This paper presents a simple model of a non-competitive market with demand uncertainty in which firms can choose their technology of production. Technology is characterised by two parameters: capacity and flexibility. The first has a strong commitment value while flexibility is needed to face uncertainty. Lack of competition requires active regulation to ensure that the price is not set at excessive level. When choosing their technology, firms take into account not only the effects of this choice on the opponent(s) but also the effect on the regulated price. In this framework, and because of regulation, firms have an incentive to manipulate their costs (cost padding). This causes monopoly regulation aiming at improving allocative efficiency to be ineffective. Increasing the number of firms in the market may restore regulation effectiveness. The reason is that if demand is sufficiently volatile, then firms strategically choose flexible techniques and this effect dominates over the incentive to manipulate costs in order to escape regulation. In this case regulation is effective precisely because cost padding is hampered by firms’ non-cooperative behaviour.

Suggested Citation

  • Debora Di Gioacchino, 2004. "Cost Padding in Regulated Markets with Demand Uncertainty," Working Papers in Public Economics 72, Department of Economics and Law, Sapienza University of Roma.
    • Handle: RePEc:sap:wpaper:wp72
    as

    Download full text from publisher

    File URL: https://www.dipecodir.it/wpsap/data/wp72.pdf
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. repec:bla:ecorec:v:59:y:1983:i:164:p:16-27 is not listed on IDEAS
    2. Reynolds, Stanley S. & Wilson, Bart J., 2000. "Bertrand-Edgeworth Competition, Demand Uncertainty, and Asymmetric Outcomes," Journal of Economic Theory, Elsevier, vol. 92(1), pages 122-141, May.
    3. Debora Di Gioacchino, 1995. "Capacity and technology: a two stage dynamic game," Working Papers in Public Economics 9, Department of Economics and Law, Sapienza University of Roma.
    4. Grossman, Sanford J, 1981. "Nash Equilibrium and the Industrial Organization of Markets with Large Fixed Costs," Econometrica, Econometric Society, vol. 49(5), pages 1149-1172, September.
    5. Newbery, D.M., 1991. "Capacity-Constrained Supply Function Equilibria: Competition and Entry in the Electricity Spot Market and Competition and Regulation in English Electricity Industry," Cambridge Working Papers in Economics 9208, Faculty of Economics, University of Cambridge.
    6. Jean J. Gabszewicz & Sougata Poddar, 1997. "Demand fluctuations and capacity utilization under duopoly," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 10(1), pages 131-146.
    7. Bolle, Friedel, 2001. "Competition with supply and demand functions," Energy Economics, Elsevier, vol. 23(3), pages 253-277, May.
    8. Bolle, Friedel, 1992. "Supply function equilibria and the danger of tacit collusion : The case of spot markets for electricity," Energy Economics, Elsevier, vol. 14(2), pages 94-102, April.
    9. Vives, Xavier, 1986. "Commitment, flexibility and market outcomes," International Journal of Industrial Organization, Elsevier, vol. 4(2), pages 217-229, June.
    10. Klemperer, Paul D & Meyer, Margaret A, 1989. "Supply Function Equilibria in Oligopoly under Uncertainty," Econometrica, Econometric Society, vol. 57(6), pages 1243-1277, November.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Debora Di Gioacchino, 2008. "Strategic technology choice in regulated markets with demand uncertainty," Empirica, Springer;Austrian Institute for Economic Research;Austrian Economic Association, vol. 35(2), pages 145-164, April.
    2. Bulut, Harun & Koray, Semih, 2008. "Competition and Regulation via Supply and Demand Functions in Oligopolistic-Oligopsonistic Markets," Working Papers 6136, Iowa State University, Department of Economics.
    3. Gregor Zöttl, 2010. "A Framework of Peak Load Pricing with Strategic Firms," Operations Research, INFORMS, vol. 58(6), pages 1637-1649, December.
    4. Zöttl, Gregor, 2011. "On optimal scarcity prices," International Journal of Industrial Organization, Elsevier, vol. 29(5), pages 589-605, September.
    5. Bonacina, Monica & Gulli`, Francesco, 2007. "Electricity pricing under "carbon emissions trading": A dominant firm with competitive fringe model," Energy Policy, Elsevier, vol. 35(8), pages 4200-4220, August.
    6. Flavio M. Menezes & John Quiggin, 2023. "Competition in supply functions and conjectural variations: a unified solution," Australian Institute for Business and Economics DP012023, School of Economics, University of Queensland, Australia.
    7. Delbono, Flavio & Lambertini, Luca, 2016. "Ranking Bertrand, Cournot and supply function equilibria in oligopoly," Energy Economics, Elsevier, vol. 60(C), pages 73-78.
    8. Albert Banal-Estañol & Augusto Rupérez-Micola, 2010. "Are agent-based simulations robust? The wholesale electricity trading case," Economics Working Papers 1214, Department of Economics and Business, Universitat Pompeu Fabra.
    9. Rajnish Kamat & Shmuel Oren, 2004. "Two-settlement Systems for Electricity Markets under Network Uncertainty and Market Power," Journal of Regulatory Economics, Springer, vol. 25(1), pages 5-37, January.
    10. Xavier Vives, 2011. "Strategic Supply Function Competition With Private Information," Econometrica, Econometric Society, vol. 79(6), pages 1919-1966, November.
    11. de Frutos, María-Ángeles & Fabra, Natalia, 2011. "Endogenous capacities and price competition: The role of demand uncertainty," International Journal of Industrial Organization, Elsevier, vol. 29(4), pages 399-411, July.
    12. Kai-Uwe Kuhn, 1997. "Nonlinear Pricing in Vertically Related Duopolies," RAND Journal of Economics, The RAND Corporation, vol. 28(1), pages 37-62, Spring.
    13. Albert Banal-Estañol & Augusto Rupérez Micola, 2009. "Composition of Electricity Generation Portfolios, Pivotal Dynamics, and Market Prices," Management Science, INFORMS, vol. 55(11), pages 1813-1831, November.
    14. Holmberg, Pär, 2009. "Numerical calculation of an asymmetric supply function equilibrium with capacity constraints," European Journal of Operational Research, Elsevier, vol. 199(1), pages 285-295, November.
    15. Hugo Pedro Boff, 2004. "The Supply Of Perishable Goods," Econometric Society 2004 Latin American Meetings 306, Econometric Society.
    16. Flavio M. Menezes & Jorge Pereira, 2023. "Imperfect competition, emissions tax and the Porter hypothesis," Australian Institute for Business and Economics DP022023, School of Economics, University of Queensland, Australia.
    17. Ventosa, Mariano & Baillo, Alvaro & Ramos, Andres & Rivier, Michel, 2005. "Electricity market modeling trends," Energy Policy, Elsevier, vol. 33(7), pages 897-913, May.
    18. Vettas, Nikolaos & Biglaiser, Gary, 2004. "Dynamic Price Competition with Capacity Constraints and Strategic Buyers," CEPR Discussion Papers 4315, C.E.P.R. Discussion Papers.
    19. Bolle, Friedel & Grimm, Veronika & Ockenfels, Axel & del Pozo, Xavier, 2013. "An experiment on supply function competition," European Economic Review, Elsevier, vol. 63(C), pages 170-185.
    20. Tina Kao & Flavio Menezes & John Quiggin, 2014. "Optimal access regulation with downstream competition," Journal of Regulatory Economics, Springer, vol. 45(1), pages 75-93, February.

    More about this item

    Keywords

    Strategic Behaviour; Cost Padding; Regulation; Demand Uncertainty.;
    All these keywords.

    JEL classification:

    • L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation
    • L10 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - General
    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:sap:wpaper:wp72. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Luisa Giuriato (email available below). General contact details of provider: https://ecodir.web.uniroma1.it/ .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.