DP267 Regulation Games

Author(s): Richard Gilbert, David M G Newbery
Publication Date: September 1988
Keyword(s): Nash Equilibrium, Regulation, Regulatory Policy, Repeated Game, Utilities
JEL(s): 026, 613
Programme Areas: Applied Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=267

We examine regulation as a repeated game between a regulator and a utility facing a Markovian sequence of demands. Sunk capital would be expropriated by a regulator concerned only with the short-run interests of consumers. There exist rate of return regulatory policies supporting efficient investment paths with zero expected profits as subgame perfect Nash equilibria, but these policies must under-reward capital in some states of the world. Carefully designed nonlinear price regulation can improve on these equilibrium outcomes, although at higher consumer costs, and only if state-contingent transfers are feasible.