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Discussion Paper Details

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Title: Excess Capacity as an Incentive Device

Author(s): Rudolf Kerschbamer and Yanni Tournas

Publication Date: May 1997

Keyword(s): Asymmetric Information, Excess Capacity and Multiplant Firm

Programme Area(s): Industrial Organization

Abstract: This paper studies the factors determining plant size and interplant output allocation within the boundaries of a multiplant firm under conditions of demand uncertainty. It shows that asymmetric information between headquarters and individual plants is one factor determining plant size and output allocation: since the existence of excess capacity creates ?high powered? incentives for individual plants, capacity levels in a second-best setting exceed the corresponding benchmark in a first-best world if capacity prices are low. The presence of ?agency costs? in the case of fully-utilized capacity reverses this result for high-capacity prices. Also, in a recession output is not necessarily assigned to the plant with the lowest production costs.

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Bibliographic Reference

Kerschbamer, R and Tournas, Y. 1997. 'Excess Capacity as an Incentive Device'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=1625