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lect4bn - Regulation Given these drawbacks with MC pricing...

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Regulation Given these drawbacks with MC pricing a different approach is Average Cost Pricing . Here the firm is forced to set the lowest price consistent with non-negative profits. This situation, where price=AC, is intermediate between marginal cost pricing and monopoly pricing. This is related to rate of return regulation, most often used to regulate utility companies. Specifically, prices are set to allow the firm to attain a “fair” rate of return on its investment.
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Regulation This gives the regulated firm the wrong incentives. It will not want any cost reduction since prices will be lowered accordingly. This is what’s referred to as low-power incentive mechanism. A the other extreme, price cap regulation is a high power incentive mechanism. Here, price is set beforehand and does not change even if costs change.
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Regulation Competition is the best way of recovering allocative inefficiency in monopoly pricing. Regulation is only best in “natural monopoly” conditions competition is “not feasible”.
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