| Abstract: | A monopolist in a simple two-period model knows that a price cap will be imposed on a Laspeyres index of the firm's prices in the second period. (Tariff basket regulation is relevant to some UK utilities.) A simple example is developed to study the welfare changes that result from strategic weight manipulation by the firm as a consequence of its ability to adjust first-period revenue shares and interperiod price relatives. Uniform regulation requiring an equal percentage reduction in all of the regulated firm's prices provides a natural standard for comparison. One particular configuration of parameters induces identical pricing and welfare under the two forms of regulation in the example. Otherwise, compared with uniform regulation in the example, Laspeyres index regulation raises producer welfare but reduces consumer welfare in the first period and may also reduce consumer welfare in the second period. A numerical illustration shows that total welfare may also be lower under Laspeyres regulation. |
