Profiting from 'countervailing' power: An effect of government control

Abstract

We demonstrate that a firm subject to government regulation might expect an increase in profit upon creation of an independent monopoly upstream. Such a monopoly serves to increase the expected cost of the regulated firm. As a result, even regulators who behave socially optimally will decrease the frequency with which they audit reports of high production-cost. The reduction in governmental investigation permits the firm to increase the rents it derives from its superior information about cost. The possible implications of our model for a theory of 'political limit pricing' are also briefly mentioned.