Price and quantity regulation in general equilibrium

Research output: Contribution to journalArticle

22 Citations (Scopus)

Abstract

We consider a general equilibrium model with a production externality (e.g. pollution), where the regulator does not observe firm productivity shocks. We examine quantity (permit) regulation and price (tax) regulation. The quantity of permits issued by the regulator are independent of the productivity shock, since shocks are unobserved. Price regulation implies use of the regulated input is an increasing function of the productivity shock because firms take advantage of a good productivity shock by increasing input use. Thus price regulation generates higher average, but more variable, production. Therefore, we show that in general equilibrium the relative advantage of quantity versus price regulation depends not only on the slopes of marginal benefits and costs, but on general equilibrium effects such as risk aversion. The general equilibrium effects are often more important than the slopes of the marginal benefits and cost curves. In the simplest model, a reasonable risk aversion coefficient implies quantity regulation generates higher welfare regardless of the benefit function.

Original languageEnglish (US)
Pages (from-to)36-60
Number of pages25
JournalJournal of Economic Theory
Volume125
Issue number1
DOIs
StatePublished - Nov 1 2005

Fingerprint

General equilibrium
Productivity shocks
Price regulation
Risk aversion
Costs and benefits
Firm productivity
Pollution
Input use
Production externalities
Relative advantage
Tax
Coefficients
General equilibrium model

Keywords

  • Asymmetric information
  • Choice of instruments
  • Pollution control
  • Tax regulation
  • Tradeable permits

ASJC Scopus subject areas

  • Economics and Econometrics

Cite this

Price and quantity regulation in general equilibrium. / Kelly, David.

In: Journal of Economic Theory, Vol. 125, No. 1, 01.11.2005, p. 36-60.

Research output: Contribution to journalArticle

@article{1fc4e10c0ebd4654895072c8108c8399,
title = "Price and quantity regulation in general equilibrium",
abstract = "We consider a general equilibrium model with a production externality (e.g. pollution), where the regulator does not observe firm productivity shocks. We examine quantity (permit) regulation and price (tax) regulation. The quantity of permits issued by the regulator are independent of the productivity shock, since shocks are unobserved. Price regulation implies use of the regulated input is an increasing function of the productivity shock because firms take advantage of a good productivity shock by increasing input use. Thus price regulation generates higher average, but more variable, production. Therefore, we show that in general equilibrium the relative advantage of quantity versus price regulation depends not only on the slopes of marginal benefits and costs, but on general equilibrium effects such as risk aversion. The general equilibrium effects are often more important than the slopes of the marginal benefits and cost curves. In the simplest model, a reasonable risk aversion coefficient implies quantity regulation generates higher welfare regardless of the benefit function.",
keywords = "Asymmetric information, Choice of instruments, Pollution control, Tax regulation, Tradeable permits",
author = "David Kelly",
year = "2005",
month = "11",
day = "1",
doi = "10.1016/j.jet.2004.07.006",
language = "English (US)",
volume = "125",
pages = "36--60",
journal = "Journal of Economic Theory",
issn = "0022-0531",
publisher = "Academic Press Inc.",
number = "1",

}

TY - JOUR

T1 - Price and quantity regulation in general equilibrium

AU - Kelly, David

PY - 2005/11/1

Y1 - 2005/11/1

N2 - We consider a general equilibrium model with a production externality (e.g. pollution), where the regulator does not observe firm productivity shocks. We examine quantity (permit) regulation and price (tax) regulation. The quantity of permits issued by the regulator are independent of the productivity shock, since shocks are unobserved. Price regulation implies use of the regulated input is an increasing function of the productivity shock because firms take advantage of a good productivity shock by increasing input use. Thus price regulation generates higher average, but more variable, production. Therefore, we show that in general equilibrium the relative advantage of quantity versus price regulation depends not only on the slopes of marginal benefits and costs, but on general equilibrium effects such as risk aversion. The general equilibrium effects are often more important than the slopes of the marginal benefits and cost curves. In the simplest model, a reasonable risk aversion coefficient implies quantity regulation generates higher welfare regardless of the benefit function.

AB - We consider a general equilibrium model with a production externality (e.g. pollution), where the regulator does not observe firm productivity shocks. We examine quantity (permit) regulation and price (tax) regulation. The quantity of permits issued by the regulator are independent of the productivity shock, since shocks are unobserved. Price regulation implies use of the regulated input is an increasing function of the productivity shock because firms take advantage of a good productivity shock by increasing input use. Thus price regulation generates higher average, but more variable, production. Therefore, we show that in general equilibrium the relative advantage of quantity versus price regulation depends not only on the slopes of marginal benefits and costs, but on general equilibrium effects such as risk aversion. The general equilibrium effects are often more important than the slopes of the marginal benefits and cost curves. In the simplest model, a reasonable risk aversion coefficient implies quantity regulation generates higher welfare regardless of the benefit function.

KW - Asymmetric information

KW - Choice of instruments

KW - Pollution control

KW - Tax regulation

KW - Tradeable permits

UR - http://www.scopus.com/inward/record.url?scp=27844483050&partnerID=8YFLogxK

UR - http://www.scopus.com/inward/citedby.url?scp=27844483050&partnerID=8YFLogxK

U2 - 10.1016/j.jet.2004.07.006

DO - 10.1016/j.jet.2004.07.006

M3 - Article

VL - 125

SP - 36

EP - 60

JO - Journal of Economic Theory

JF - Journal of Economic Theory

SN - 0022-0531

IS - 1

ER -