Price Cap Regulation Research Articles

Renewable energy input strategy considering different electricity price regulation policies

This paper examines the impact of the electricity price cap regulation and different policies on renewable energy inputs, electricity prices, demands, and the profits of power firm. Specifically, we compare the impact of the peak-trough electricity price policy (PP policy) and the uniform electricity price policy (UP policy) based on electricity price cap regulation. The findings are as follows: (1) Regardless of the cap, the UP policy consistently results in no lower renewable energy input level and total electricity demand compared to the PP policy. However, power firm earns higher profit in the PP policy. (2) During peak period, the electricity price in the PP policy is not lower than in the UP policy, but the electricity demand is lower. Conversely, during the trough period, the electricity price in the PP policy is lower, and the electricity demand is higher than in the UP policy. (3) When the firm is subject to the electricity price cap regulation, increasing the cap leads to higher electricity prices, renewable energy input levels, total demands, and firm profits. In the absence of the cap regulation, factors of cross-price competition and renewable energy preference increase all equilibrium solutions, while the renewable energy input cost factor has the opposite effect. In the field of renewable energy input, there is no literature considering the impact of the electricity price cap regulation, while our study considers the input behavior of power firm to renewable energy through electricity price cap regulation and different pricing policies. The findings provide substantial theoretical and practical insights for power firm and government in decision-making processes.

Optimal revenue adjustment in the presence of exogenous demand variation

This article examines optimal adjustments to a regulated firm’s revenue when realized revenue diverges from expected revenue due to exogenous variation in demand. The adjustments that are considered include those that arise under two popular forms of incentive regulation — price cap regulation (PCR) and revenue cap regulation (RCR). It is shown that the optimal revenue adjustment reflects the firm’s Lerner Index. The optimal policy differs from both PCR and RCR, but more closely resembles PCR (RCR) when the prevailing fixed charge for the firm’s service is large (small).

Price-Cap Regulation of Firms That Supply Their Rivals

Abstract We study price-cap regulation in a market in which a vertically integrated upstream monopolist sells an essential input to a downstream competitor. In the absence of regulation, entry benefits both firms, but may harm downstream consumers because the upstream monopolist can set a high input price that would push downstream prices above the unregulated monopoly level. However, if a regulator caps the incumbent’s upstream and downstream prices, consumers and firms are better off after entry than under a price-cap monopoly. We extend our model to examine the concern that price caps may induce incumbents to forgo cost-reducing investments and dampen entrants’ incentives to self-provision the input.

Effects of price cap regulation on pharmaceutical supply chain under the zero markup drug policy

Effects of price cap regulation on pharmaceutical supply chain under the zero markup drug policy

The Competitive Foundations of Price Cap Regulation

Abstract Price cap regulation (PCR) as commonly implemented closely approximates atomistic Cournot competition in terms of the pass-through of industry and firm-specific cost-reducing innovation when the invariance property holds. A key finding is that the aggregate pass-through of cost-reducing innovation under PCR exceeds that under Cournot, holding the number of firms constant. The welfare gains under PCR are greater than Cournot when cost-reducing innovation is endogenous, the invariance property holds and demand is highly inelastic.

Dynamics of the gas retail market under China's price cap regulation

To stabilise gas prices and safeguard consumer interests, China introduced a new price cap regulation for the gas retail market in 2013. This study is the first to evaluate the impact of this price cap regulation on the dynamics of retail gas prices. By using an asymmetric error correction model and Markov-switching regression based on daily gas-station-level price data from Inner Mongolia, China, we establish that retail prices respond asymmetrically to price caps, rather than crude oil prices, implying that price caps may serve as focal points for gas stations to collude tacitly. Additionally, the cyclic nature of retail prices is not obvious under the price cap regulation, which provides some evidence for the buffering effect of price caps on price cycles. Finally, we establish that price cycle characteristics differ by gas station and brand. These results may provide a better understanding of retail price dynamics in a price-cap-regulated market and guide policymakers and planners in optimising regulatory policies.

Hold-up Problem in Price Cap Regulation with Limited Ability of Commitment in High Inflation

In this study, we examine the hold-up problem under price cap regulation in developing economies characterised by high inflation that have a limited ability to commit. The governments of developing countries are unable to modify the exact inflation rate. If high inflation is brought about by unexpected monetary expansion after the initial average price is fixed, the insufficient ability to show exact inflation causes a lack of commitment to adjust the initial fixed price to the modified price. The study’s findings show that those that have a limited ability to commit cause a hold-up problem if inflation is sufficiently high for a firm to stop production at the initial price, while the hold-up problem does not occur if inflation is lower and the initial fixed price generates a sufficient profit for the first-best investment for the firm. JEL Classification: D86, L14, L43,L51 Keywords: Price Cap Regulation, Hold-up Problem, Limited Ability of Commitment, Inflation Adjustment

Deregulation on branded and generic drugs price and its effect: a study of Chinese pharmaceutical market

PurposeThis research studies the effect of deregulation of price cap in pharmaceutical market. Price regulation (either through price cap or reference price) is common practice in the pharmaceutical market but recently there are increasing voices calling for deregulation claiming that deregulation could help in lowering drug price and increase revenue of pharmaceutical firms. Upon those callings, Chinese government removed the price cap regulation in June 2015. The author uses this natural policy experiment to study this effect.Design/methodology/approachIn this study, the author applied the interrupted time series analysis (ITSA) on the revenue data of nine categories of both generic and branded drugs in China from March 2011 to August 2016 (the time frame includes both before and after of the initialization of the deregulation) and analyzed the effect of deregulation.FindingsThe results showed that, whether the revenue of drugs will increase or decrease after the deregulation of price cap depends on the level of competition and the change of patterns of the branded and generic drugs are different. When HHI (Herfindahl–Hirschman index) is sufficiently low (competition is high), revenue does not change as a result of deregulation, when HHI is moderately low (moderate competition), revenue from generic drugs will decrease significantly and revenue from branded drugs will increase significantly, and when HHI is high (low competition), revenue from generic drugs will increase significantly and revenue from branded drugs will decrease significantly.Originality/valueThis is a unique study with a unique data set. Most previous studies focus on regulation of drug price and analyze how this may affect drug revenue; however, this is a natural policy experiment of de-regulation. Moreover, previously most studies focus on reference pricing regulation and this is price-cap, a different mechanism that is rarely studied. The originality/value is high of this article.

Price cap regulation under duopoly

AbstractThis article captures price cap regulation under duopoly with game theory approaches. First, price cap regulation reduces price difference, output difference, and price dispersion under both Cournot and Stackelberg competition. Second, price cap regulation weakens the advantages of both costs and first‐mover. Third, price cap regulation reduces firms' profits while promotes consumer surplus. Finally, the relationship between the social welfare and price cap regulation is an inverse U‐shape. Therefore, optimal price cap regulation exists.

Does price-cap regulation work for increasing access to contraceptives? Aggregate- and pharmacy-level evidence from Colombia

Price caps through international reference pricing are widely used worldwide but not so commonly in over-the-counter markets. We study the short-term effects of a price cap regulation for oral contraceptives in Colombia, a market dominated by the presence of several branded generics with multiple active ingredients. Most of the regulated products were fourth-generation contraceptives, and the Colombian health benefits plan only covers second-generation ones, resulting in a de facto over-the-counter market. Our aim is to establish whether the regulation triggered a competitive response within and across product categories, by price levels and regulatory status. The panel data analysis of quarterly level data for 52 drugs (and 79 drugs in an expanded sample without transactions for some quarters) reveals a massive expansion of transactions, for the directly regulated products that were formerly the most expensive, and for the indirectly regulated (i.e., a regulated ingredient) among those with an intermediate price. Although this price reduction could have led to a crowd out of the publicly provided contraceptives, we show that this is not the case. Since the information system cannot trace the final consumers’ purchases, we complement our analysis with an audit study involving 213 pharmacies in Bogota. We find that the price reduction was effectively transmitted to the final consumers.

Price-Cap Regulation, Price Elasticity of Demand, And Quality of Service

Price-cap regulation is aimed at limiting price increases by the significant market powers and prevent the decrease in consumer surplus. Therefore, studies on price-cap regulation have implicitly neglected the theoretical possibility that firms might lower their prices to increase revenue when the price elasticity of demand exceeds 1. Using Chunghwa Telecom (CHT), the largest mobile phone service provider in Taiwan, as a case study, we estimated the price elasticity of residual demand faced by CHT and found that it was higher than 1. Therefore, CHT’s continual lowering of price, which improved its revenues during 2010–2013, was reasonable. Because telecommunication service providers are characterized by high fixed costs and low variable costs, these firms have the incentive to increase revenue and subsequently maximize their profit. However, lowering the prices attracts more subscribers while the capacity remains unchanged, thereby congesting communication channels and reducing service quality. For public utility regulators, our results reiterate that price-cap regulation should be combined with quality control, particularly when the price elasticity of demand exceeds 1.

Modeling the effects of government subsidy and regulation on BOT transport project contract design within contractible service quality

Government subsidy and regulation are frequently employed to encourage the private sector to participate fully in Build-Operate-Transfer (BOT) transport projects. Besides service charge, the service quality of BOT transport project (i.e., maintenance quality, toll service, operational monitoring, emergency management, safety management and so on) is also an important factor affecting the choice of users. This paper studies the optimal service quality decisions in both concession period (CP) and post-CP, in which we assume that the market demand is dependent on both service price and service quality. Firstly, in the absence of subsidy scheme, we derive the related players’ optimal decisions of toll charge, contractible service quality, project capacity and length of CP in the BOT contract design process. Secondly, we investigate how to design an optimal BOT transport project contract when the government subsidizes the private sector. Thirdly, we explore the effects of government regulation policies (i.e., price cap regulation and service quality floor regulation) on the BOT contract design. Finally, we make three extensions to further examine the impacts of the demand uncertainty, the risk-aversion attitude of private sector, the asymmetric cost information and the nonlinear demand function on the BOT contract design. From our model results, some policy implications are derived regarding BOT transport project contract design when the service quality is a fundamental contractible variable.

Pricing Problems in the Pharmaceutical Supply Chain with Mixed Channel: A Power Perspective

This paper builds Pharmaceutical Manufacturer Stackelberg, Pharmacy Stackelberg and Nash game models with and without price cap regulation. The optimal pricing, performance and social welfare are derived and compared in three different power structures to find out how price cap regulation and power structures affect the drug supply chain. More power over other supply chain members always allows the pharmaceutical manufacturer to obtain more profits. However, the pharmacy cannot always benefit from its dominant position in the market with changes in the wholesale price cap. Additionally, the balanced market structure may harm social welfare under certain conditions. Another interesting finding is that the restricted wholesale price cap deeply affects the financial performance and social welfare in the manufacturer-dominated and pharmacy-dominated markets. The research results can provide important management insights, which will be beneficial to the government to design smart price-limiting policies that take into account the power relationships of the supply chain.

Modeling Electricity Price Dynamics Using Flexible Distributions

We consider the wholesale electricity market prices in England and Wales during its complete history, where price-cap regulation and divestment series were introduced at different points in time. We compare the impact of these regulatory reforms on the dynamics of electricity prices. For this purpose, we apply flexible distributions that account for asymmetry, heavy tails, and excess kurtosis usually observed in data or model residuals. The application of skew generalized error distribution is appropriate for our case study. We find that after the second series of divestments, price level and volatility are lower than during price-cap regulation and after the first series of divestments. This finding implies that a sufficient horizontal restructuring through divestment series may be superior to price-cap regulation. The conclusion could be interesting to other countries because the England and Wales electricity market served as the benchmark model for liberalizing energy markets worldwide.

Tariff Optimization under Incentive Regulation of Public Services Using Simplex method

The tariffs of regulated public services under price cap regulation are variables defined in the tariff review process, subject to a major technical complexity and many restrictions. Given the complex scenario that involves the tariffs definition, the present paper seeks to verify the effectiveness of the implementation of a Linear Programming model to support decision-making in optimal tariffs definition. The Solver add-in of Microsoft Excel software was used to generate the optimal solution for the proposed model. The results indicated that the proposed model generated a reasonable result, incorporating the various restrictions for modeling and ensuring details at a sufficient level for modeling adjustments throughout the process, if necessary.

A Note on the Competitive Foundations of Price Cap Regulation

A Note on the Competitive Foundations of Price Cap Regulation

Price caps and efficiency in markets with adverse selection

This article studies general economies with adverse selection in which symmetric companies supply (potentially multiple) plans to privately informed consumers and compete in terms of price schedules. I show that a basic price cap regulation, in which the price caps are endogenously determined by companies, discourages risk selection over efficient allocations, and therefore, equilibrium exists in every economy. Moreover, I demonstrate that in generalisations of Rothschild and Stiglitz (1976) and Wilson (1977) economies, companies earn zero profits in equilibrium, and every equilibrium allocation is efficient.

Price cap regulation and water quality

A number of studies suggest that price cap regulation may reduce the quality of the regulated good. This paper analyzes the impact on drinking water quality of a shift from cost-of-service to price cap regulation in Denmark, using a balanced panel of drinking water companies, for the period 2008 to 2016. The price cap was introduced in 2011 for companies above a certain threshold size. We exploit this quasi-experimental setting to estimate the impact of the shift in regulation using a regression discontinuity difference-in-differences approach. Our measure of drinking water quality is based on results from a compulsory surveillance drinking water testing program, which investigates whether or not water samples contain a level of microbiological content that exceeds limit values. More specifically, we compare the change over time in water quality for a treatment group of 113 companies regulated with price caps that have a size close to the threshold size for being regulated, with the change in drinking water quality for a control group of 282 companies that are below but close to the threshold size. We find that the shift in regulation has not caused a reduction in drinking water quality in Denmark.

Impact of heat price regulation on the optimal district heating production mix and its policy implications

The use of district heating systems consisting of a combined heat and power (CHP) and a heat only boiler (HOB) is on the rise in South Korea. In this context, monopolistic district heating providers optimise cogeneration capacity composition to maximise their profits under price regulation. Building upon Joskow and Jones (1983), this study develops a theoretical framework to investigate the role of price regulation on the optimal capacity composition of a district heating system for a regional monopolist. Assuming varying heat demand, wherein the maximum heat load may exceed CHP capacity, the effects of price-cap and rate of return regulations on the optimal mix of the district heating system are examined and compared. The results show that the heat production mix is optimal for price-cap regulation. In contrast, the rate of return regulation hinders the monopolist's incentive to reduce costs. Finally, in case of internalising the environmental benefits of cogeneration, the optimal CHP size in the heat production mix should be increased; consequently, the energy efficiency for producing heat and electricity is likely to improve. This study, therefore, has far-reaching implications for policymakers and practitioners alike in terms of addressing the dual goals of energy efficiency and economic efficiency.

Pareto-efficient solutions and regulations of congested ride-sourcing markets with heterogeneous demand and supply

Ride-sourcing services have experienced dramatic growth over the past decade but aroused debates on whether and how the government should regulate the ride-sourcing platform. To tackle this critical issue, this paper investigates the regulatory outcomes of various representative government regulations, including price-cap regulation, vehicle fleet size control, wage (per-order) regulation, income (hourly earnings) regulation, car utilization rate regulation, commission charge regulation, etc. In particular, we try to answer two key questions: (1) whether a regulation leads to a Pareto-efficient outcome; (2) what are the impacts of the regulations on the platform’s decisions and the resulting realized passenger demand and driver supply. By conducting theoretical and numerical studies, we offer some interesting and useful managerial insights for the government in designing appropriate regulations. Notably, some prevailing regulations, such as fleet size control and wage regulation, fail to achieve a Pareto-efficient outcome, while the maximum commission regulation and minimum service level (demand) regulation can achieve Pareto-efficient outcomes in markets with homogeneous drivers and mild traffic congestion. In addition, drivers’ heterogeneity and traffic congestion substantially affect the regulatory outcomes of various regulations. For example, in markets with homogeneous drivers, the income regulation does not take effect, while in markets with heterogeneous drivers, the income regulation does influence the platform’s decisions but still cannot achieve a Pareto-efficient outcome. We also show that the government acts quite differently under mild or heavy traffic congestion: it tends to encourage more drivers to participate in the market by a minimum fleet size regulation when traffic congestion is light, but restrain the vehicle fleet size by a maximum fleet size regulation when traffic congestion is severe.