1423class11

1423class11 - 14.23 Government Regulation of Industry Class...

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14.23 Government Regulation ± of Industry± Class 11: Deregulation of Surface Freight and Airlines 1
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Outline The theory of why price and entry regulation are inefficient for naturally competitive industries. Rail, trucking and airlines were all heavily regulated until the 1970s. They have since between substantially de- regulated. We examine each in turn and ask the question: how was regulation effecting them? 2
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Price and Entry Regulation • The heart of regulation is the control of entry and price. • Price regulation can be above or below cost. • Entry and exit regulation have similar effects. Entry/Exit regulation and price regulation are necessary complements. What happens: (1) when price regulation is above cost and there is no entry regulation? (2) when price regulation is below cost and there is no entry regulation? • (3) when there is limitation on entry and no price 3 regulation?
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Regulation of Competitive Market Competitive market can support 20 firms. However if regulated price and D AC(Q) Q 1 /20 Q 1 Q 2 entry, price rises and demand falls so costs rise. However if prices are regulated free entry would make situation worse. What are welfare losses? $ P R P* Q 0 Q 2 /21 Q 2 /20 4
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Second Best Effects of Regulation Given regulation of first market is regulation of a second related market a bad thing? Imagine you have one regulated firm supplying market 1 and a second firm could supply the market but at higher cost but slightly lower quality. If you regulate the P R >MC 2 >MC 1 . Firm 2 will enter but this is not in society’s interests. The answer is to force both firms to charge a price no lower than P R . This is beneficial if the benefits of lower costs exceed the consumer surplus losses. What would happen in a competitive market? $ P R MC 2 D(P) MC 1 0 Q 0 Q f Q 5
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Imperfectly Competitive Model In the presence of substantial fixed costs and significant MES relative to market size it is not clear that entry increases social welfare. This is because entry occurs up to the point where it is just unprofitable for the entering firm but this is not the same as the point where social welfare is maximised.
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This note was uploaded on 11/18/2011 for the course ECON 14.23 taught by Professor Daronacemoglu during the Fall '09 term at MIT.

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1423class11 - 14.23 Government Regulation of Industry Class...

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