Economics of Regulation

Economics of Regulation

INTERNATIONAL COURSE ON “INSTITUTIONS, ECONOMICS OF REGULATION AND ANTITRUST"

1.0INTRODUCTION AND DESCRIPTION OF THE COURSE

This course aims to provide the participants with the fundamental theoretical tools and the practical tools to analyze the regulatory process and the advantages and the restrictions of regulation. A wide spectrum of material is used to introducing the participants to economic theory and techniques used in designing competition policies and in regulation public utilities. This graduate level course includes material ranging from economics to public policy. Additionally, this course was supplemented with material from investigations and consulting studies at the international level.

This course was originally prepared for the Panamanian Antitrust and Consumer Affairs Commission (Comisión de Libre Competencia y Asuntos del Consumidor de Panamá (CLICAC) and the Inter-American Development (IDB).

2.0OBJECTIVE OF THE COURSE

The objectives of the course can be summarized as follows:

  • To familiarize the participants with the economic theories (information theory, transactions cost theory, and the new institutional economics) and their application to real-world problems.
  • To familiarize the participants with the most important analytical tools used in competition policy and in regulating public utilities.
  • To introduce the participants to the different concepts of efficiency and the quantitative techniques normally used in evaluating efficiency
  • To present and review some of the different approaches to competition policy and regulation applied internationally. To provide a solid foundation to properly regulate public utilities.

2.0COURSE CONTENT

This course is made up of six sessions. We review economic theory and the technical aspects necessary for an effective regulation. The topics covered are the following:

SESSION I:Economic Theory, Regulation and Institutions

SESSION II:Microeconomics for Regulation

SESSION III:Efficiency Estimation, Economies of Scale, and Competition

SESSION IV:Antitrust - technical concepts and competition analysis

SESSION V:Competition in Public Services

SESSION VI:Markets, Strategic behavior, Competition Policy and Analysis

Participants will find these sessions stimulating as well as informative, increasing their overall knowledge in their regulatory endeavors.

COURSE MATERIAL
  1. REQUIRED BOOKS

As reference material, the following books are required. These books are provided as part of the course package.

  • Graham, Edward, David Richards. Competition Policies for the Global Economy. Institute for International Economics, Washington D.C., 1997.
  • Handbook of Industrial Organization, in R. Schmalansee and R. Willig (eds): Amsterdam: North Holland, Volumes 1 and 2, 1988.
  • Kahn, Alfred. Regulation, Principles and Practice. Cambridge: MIT Press, 1998.
  • Oster, Sharon. Modern Competitive Analysis. Oxford University Press 1999.
  • Viscusi, K, J. Vernon, and J. Harrington. Economics of Regulation and Antitrust. Cambridge: The MIT Press, 1996.
  1. MATERIAL (Technical Summaries and Research Papers)

Two binders will be provided as reference material for this course. The first binder contains a series of technical summaries prepared by the author of this course. The summaries explain the topics to cover in a very simple and descriptive manner.

The second binder contains more than 30 research papers deemed as the classics in the topics covered in this course. These are the leading research papers in every topic covered in this course.

3. ADDITIONAL INFORMATION

In addition, for interested participants, , a list has been provided at the end of this outline with the book titles related regulation, competition policy or sectoral reform

4. COURSE PROGRAM

There is a more in-depth outline with the recommended readings for each topic. The material provided is marked with an asterisk (*) and is considered fundamental for the proper understanding of the topics that follow.

SESSION I: ECONOMIC THEORY, REGULATION AND INSTITUTIONS

1. INTRODUCTION TO REGULATORY ECONOMICS AND INSTITUTIONS

1.1Evolving Economic Theory and Types of Regulation (economic regulation, social regulation, and deregulation).

* Madrid-Aris, Manuel. Transaction Cost Theory and Information Economics: Applicability to economic regulation. Technical Notes.

*Viscusi, K, J. Vernon, and J. Harrington. Economics of Regulation and Antitrust. The MIT Press, 1996. Chapter 1

1.2Theories of Economic Deregulation

*Madrid-Aris, Manuel. Technical Notes

* Posner, R., “Theories of Economic Regulation,” Bell Journal of Economics, Vol 4, 335-358, 1973.

Priest, George. The Origin of Utility Regulation and the Theory of Regulation Debate”, Journal of Law and Economics, April, 1993.

1.3Organization and Regulatory Agencies

1.3.1 Anti-trust Agencies and Public Utilities: Lessons and the International Experience

(discretionary powers, conflict resolution, vertical integration, specialized institutions or multi-sectoral).

*Smith, W. and David Gray, “Regulatory Institutions for Utilities and Competition,” Working Paper, World Bank, 1999.

1.3.2 Different Regulatory Bodies, Structure and their Roles

1.3.3 Costs of Regulation: Regulatory Agencies in the United States and its Costs

*Viscusi, K, J. Vernon, and J. Harrington. Economics of Regulation and Antitrust. Chapters 2 and 3.

1.4 Competition Policy and Industrial Organizations (Antitrust)

*Viscusi, K, J. Vernon, and J. Harrington. Economics of Regulation and Antitrust. Chapters 2 and 3.

1.5 Practical Application: debate on the regulatory agencies and the cost of regulation in different countries.

2. REGULATION AND THE ROLE OF THE STATE

2.1Economic Regulation: objectives and benefits.

Martin, Stephon. Industrial Economics: Economic Analysis and Public Policy. Prentice Hall, 1993. Chapters 3.

2.2The State as the regulator and entrepreneurship

*Bitran, Eduardo, and Eduardo Saavedra. Algunas Reflexiones sobre on torno al Rol Regulador y Empresarial del Estado. Santiago: Cieplan, 1994.

*OECD, “Recommendation of the council of the OECD on improving the quality of government regulation”

2.3 Regulation, asymmetric information, accountability rules and regulatory capture.

3.0 INSTITUTIONS AND ECONOMIC DEVELOPMENT

3.1 The study of institutions: definition of institution and type of institutions

*Madrid-Aris, Manuel. Notes and technical summaries

Ostrom Elinor, “An Agenda for the Study of Institutions.” Public Choice, 48, pp.3-25, 1986.

3.2 The roleof institutions

a) Elimination of Monopoly Rents

*Liebenstein, Harvey, “Allocative Efficiency vs X-Inefficiency,” American Economic Review 56, 392-415, 1966.

b) Reduction of Transaction Costs

Coase, Ronald, “The Problem of Social Costs,” Journal of Law and Economics, 3, 1960.

Williamson, Oliver. The Economic Institutions of Capitalism. New York: Free Press, 1985, Chapters 1-3 and 6-9.

Klein, Bonjamin, Robert Craford, and Armon Alchian, “Vertical Integration, Appropriate Rents, and the Competitive Contracting Process,” Journal of Law and Economics, 21, 297-326, 1978.

*Joskow, Paul, “The Role of Transaction Cost Economics in Antitrust and Public Utility Regulatory Policies,” Journal of law, Economics and Organization, V7, Sp, pp.53-831991.

Shelanski, H. and P. Klein. “Empirical Research in Transaction Costs Economics: A review and assessment. Journal of Law, Economics and Organization, Vol 11, No 2, 1995.

c) Elimination of the free-riding free-riding problem and the emergence of norms.

Ullmann-Margalit, Edna. The Emergence of Norms. New York: Oxford University Press, 1977, Chapter 2.

d) Coordination and Protection of Expectations

Ullman-Margalit, Edna. The Emergence of Norms, Chapter 3.

Kindleberger, Charles, “Standards as Public, Collective and Private Goods.” Kyklos, 36(3), pp.377-396, 1983.

e) Elimination of Problem of Setting and Rent-Seeking

Appelbaum, Elie, and E. Kats, “Seeking Rents band Setting Rents: The Political Economy of Rent-Seeking,” The Economic Journal, 97, September 1987.

Krueger, Anne, “The Political Economy of the Rent-Seeking Society,” American Economic Review, Vol 64, No 3, pp. 291-303, June 1974.

Charles Rowley, Robert Tollison, and Gordon Rowley, Charles. The Political Economy of Rent-Seeking. Boston: Kluwer Academic, pp. 15-32, 1988

Buchanan, James, R. Tollison, and G. Tullock, Eds. Toward a Theory of Rent Seeking Society. College Station: Texas A&M University Press, 1980.

3.3Institutions, Regulation and Economic Development

Lin, Justin and Jeffrey Nugent, “Institutions and Economic Development,” Handbook of Development Economics, Vol 3a, Chapter 37, Amsterdam, North Holland, 1996.

Campos, Nauro and J. Nugent, “Institutions and Economic Growth: can the human capital be the link?” Cepal Review, Vol 64, pp.7-27, 1997.

3.4 Endogenous growth theory: the importance of institutions (special emphasis on the rule of the law, competition, rent-seeking and corruption)

*Tommasi, Mariano, “Institutions and Fiscal Results,” Desarrollo Económico, Vol 38, No 149, 1998.

Barro, Robert and Xavier Sala-i-Martin. Economic Growth. New York: McGraw Hill Press, 1995. (BSM)

Mauro, Paolo, “Corruption and Growth,” The Quarterly Journal of Economics, pp. 681-712, August 1995.

4.0 Applications and Debate:

  • Quality Index of Institutions
  • Institutions and growth in the long run

5.0Assignment:

  • Complete the handout on the cost of regulation
  • Assignment on the qualitative index of institutions

SESSION II: MICROECONOMICS FOR REGULATION

Basic books for Session II.

Mankiw, Gregory. Principles of Microeconomics. The Dranddon Press, 1997.

Le Roand Miller, Roger and Roger Meiners. Microeconomics. Chapters 11,12, 13 and 14.

1.0 MARKET STRUCTURE, BEHAVIOR AND INTERVENTION

1.1 Introduction to the market structure models (perfect competition, monopoly, oligopoly, monopolistic competition)

1.2Microeconomic Concepts

a)Supply and Demand concepts

b)Price Elasticity

c)Average costs, marginal revenues, marginal costs, etc.

d)Other concepts

2.0 THE PERFECT COMPETITION MODEL

3. OLIGOPOLISTIC MODEL

3.1 Theories of Oligopolistic Behavior.

*Viscusi, K, J. Vernon, and J. Harrington. Economics of Regulation and Antitrust. Cambridge: The MIT Press, 1996. Chapter 5.

4.0 MONOPOLISTIC COMPETITION MODEL

4.1Product Differentiation

4.2Non-Price Competition

4.3Effect of advertising on the price elasticity of the demand.

5.0 MONOPOLY AND ITS EFFECT ON THE COMPETITION

5.1 Monopolistic Prices and welfare loss. Monopolistic Price and Rents.

*Viscusi, K, J. Vernon, and J. Harrington. Economics of Regulation and Antitrust. Cambridge: The MIT Press, 1996. Chapter 12.

5.2Multiproduct Monopoly (or Multiservice): Price dependency and separation of costs.

Panzar, John. Handbook of Industrial Organization. Chapter 1.

6.0 MONOPOLY AND PRICE DISCRIMINATION

6.1 First, second and third degree discrimination and public policy (Robinson-Patman Act)

*Martin, Stephon. Industrial Economics: Economic Analysis and Public Policy. Prentice Hall, 1993. Chapter 15

*Viscusi, K, J. Vernon, and J. Harrington. Economics of Regulation and Antitrust. Cambridge: The MIT Press, 1996. Chapter 12- Monopolization and Price Discrimination.

Varian, Hal. Price Discrimination. Handbook of Industrial Organization, Chapter 10, pp.598-647.

6.2 Disney Monopoly (Monopoly Oi) and Price Discrimination

Oi, W. “A Disneyland Dilemma: the two-part tariff for a Mickey Mouse Monopoly” Quarterly Journal of Economics, Vol 85, pp. 755-756, 1971.

Basu, Kaushik. Agrarian Structure and Economic Underdevelopment. Harwood Press, 1990.

6.3 Price discrimination on public services: decreasing tariffs in electricity, and price baskets.

7.0Application in Panama and Debate:

7.1 Regulation for Electrical Sector – International Benchmarking of Customer Service Cost

SESSION III: EFFICIENCY MEASURES, ECONOMIES OF SCALE AND COMPETITION

1. COMPETITION AND EFFICIENCY

1.1Conceptual Competition Aspects. Concept of Static, Dynamic, and Evolving Competition

*Madrid-Aris, Manuel. Technical Notes

*Vickers, John, “Concepts of Competition,” Oxford Economic Papers, No 47, pp1-23, 1995.

*Bauer, Johannes. Competitive Processes in Network Industries: Toward an evolutionary perspective. Draft, IPU Working Paper 97-02.

1.2Concept of Productivity, technological change, technical (productive efficiency) and allocative (Farrel) efficiency and total productivity factors (TPF).

*Madrid-Aris, Manuel. “Costs, Efficiency and Incentives in Regulatory Frameworks in Emerging Economies: implications for LDCs”. Working paper, march 2000.

*Federal Communications Commission, Rules, FCC 97-159. Estimating total factor of productive in practice.

1.3Estimating Productive and Dynamic Efficiency through DEA (Data Development Analysis) Linear Programming Models. Implications for developing countries

*Public Utilities Fortnightly. Which Utility Ranks the Highest? September 1998.

Fried, Harold, K. Lovel, and S. Schmidt, “The Measurement of Productive Efficiency: Techniques and Applications,” Oxford University Press, 1993.

1.4 Total Factor Productivity (Dynamic Efficiency) and Competition: lack of competition in centralized systems and its effect on efficiency.

*Madrid-Aris, Manuel. Investment, Human Capital, and Technological Change: evidence from Cuba and its implications for growth models,” on Cuba in Transition 8, Washington D.C., 1998.

1.4Inefficiency-X

Frantz, Roger. X-efficiency: theory, evidence and applications. Boston: Kluwer Academic Publishers. 1997.

1.5 Practical Application: The American experience in measuring productivity.

Practical Application: examples of inefficiency in Panama.

a) Tables with inefficiencies in water sector in Panama. Homework

b) Inductive-Deductive Analysis of Aggregated Inefficiencies in the Management of Solid Waste in Panama

2.0 ECONOMIES OF SCALES AND COMPETITION

2.1 Concept of economies of scale.

2.2 Inductive method (statistical) and deductive method for estimating costs and economies of scale

*Madrid-Aris, Manuel. “Regulation and Privatization of Water and Wastewater Systems: theory, empirical evidence and implications for Chile”, research presented at the Jornadas Hidraúlicas, Universidad Católica, Chile, Nov. 1998. English version at

2.3 Economies de Scales in Network Systems: Identification and Dispersion Problems.

3.0 Practical Application:

*Madrid-Aris. Manuel. “Estimating economies of scales in solid waste management,” Working paper from Technical Report done for the Ministry of Finance of Panama, 2000.

*Madrid-Aris. Manuel. “Average cost, and economies of scales in water sector in Panama,” Technical Notes from worked done for Regulatory Agency of Panama.

*Empirical evidence of economies of scale in the thermo electrical generation in USA.

SESSION IV: TECHNICAL CONCEPTS AND COMPETITION ANALYSIS

1INDUSTRIAL ORGANIZATION AND COMPETITION (Antitrust)

1.1Different Approaches to Competition (US, Austrian and German approach,): Implications for Latin America

*Madrid-Aris, Manuel. “Different concepts about competition,” Technical Notes

Doern, Bruce and Stephon Wilks. Comparative Competition Policy: National Institutions in a Global Market. Oxford; Clarondon Press, 1996.

*Singleton, Ross, “Competition Policy for Developing Countries: A long-run, entry-based approach, Contemporary Economic Policy, Vol. 15, pp. 1-11, April 1997.

1.2Horizontal Integration (mergers) and Concentration Index in the market

a) Industry Concentration (indices c4, HHI, P). Value added versus concentration

b) Monopolistic Power and Lerner index

Ordover, J. (1990), ”Economic Foundations of Competition Policy,” on Competition Policy in Europe and North America: Economic Issues and Institutions. W.S. Comanor and others eds. NewYork: Harwood Academic Publishers.

1.3Vertical Integration: Determinants and Public Policy (Section 2 – Sherman Act and Section 7)

*Carlton, D, and J. Perloff. Modern Industrial Organization. Chapter 16 one “Vertical Integration and Vertical Restrictions”..

*Perrand, Martin, “Vertical Integration: determinant and effects,” Handbook of IO, Chapter 4, pp. 183-250.

*Oster, Sharon. Modern Competitive Analysis. Oxford University Press, 1999. Chapter de “Vertical Linkages”, Chapter 11., pp. 199-216.

1.4Vertical Conduct (Restrictions) and Exclusive Representation

*Marvel, Howard. “The Exclusive Representation”, Journal of law and Economics, Vol XXV, April, 1982.

Discussion on Different Vertical Conducts and Integration Rules (Restrictions) December1998.

2.0 THEORY OF CONTESTABLE MARKETS

*Madrid-Aris, Manuel. “Understanding contestability: theory and practice,” Technical Notes

Baumol, W., J. Panzar and R. Willig. Contestable Markets and the Theory of Industry Structure. New York: Harcourt Brace Jovanovich, Second Edition, 1989.

*Baumol, W. “Contestable Markets: An Uprising in the Theory of Industry Structure,” American Economic Review, Vol 72, No 1, pp. 1-15, March 1982.

*Weitsman, Martin. “Contestable Markets: An Uprising in the Theory of Industry Structure: Comment,” American Economic Review, Vol 73, No 3, pp. 491-496, June 1983.

Rashid, Salim. Quality in Contestable Markets: A Historical Problems? Quarterly journal of Economics. Vol 103, No 1, pp. 245-29, Feb 1988.

4.4 SUNK COSTS. CONTESTABILITY AND CONCENTRATION INDICES

4.5PROFITABILITY INDICES: review of empirical studies

*Schamalensee, Richard. Inter-Industry Studies of Structure and Performance. Handbook of Industrial Organization, Chapter 16, Vol II. pp. 960-985.

4.6 COMPETITION AND GLOBAL MARKETS

4.61. Competition, Globalization and Theory of International Contestable Markets

Edward, Graham, and Robert Lawrence. “Measuring the International Contestability of Markets: A conceptual approach,” Journal of World Trade, pp. 1-20, 1997

4.6.2International Trade and Competition

a)International Trade: Real Protection and effective rate of protection.

b)Manuel Madrid-Aris, Technical Notes on Estimating Armington Elasticity

c)Evaluation anti-dumping policies and international competitiveness

4.6.3 Globalization and International Competitiveness Analysis

*Graham, Edward, and David Richardson. Competition Policies for the Global Economy. Institute for International Economics. Washington D.C., 1997.

*CEPAL. La exportación de países pequeños on el Mercado de los Estados Unidos: Efecto del TLCAN y la devaluación Mexicana. LC/MEX/R571, Nov, 1996.

CEPAL. Central America Comparative Competitiveness Study: a potential model. Report LC/MEX/R579, Nov, 1996.

SESSION V: EFFICIENCY AND COMPETITION IN PUBLIC SERVICES

1.0 NATURAL MONOPOLIES, COMPETITION AND EFFICIENCY MEASURES

1.1Approaches to measure efficiency (inductive and deductive) and its applicability to natural monopolies.

*Madrid-Aris, Manuel, “Estimating Technical Efficiency: theory and applications,” Technical Notes

2.0EFFICIENCY AND OWNERSHIP OF PUBLIC UTILITIES: theory and evidence

Koh, Dong-Soo, Sanford Berg, and Lawrence Konny , “A Comparison of Costs in Privately Owned and Publicly Owned Electric Utilities: The Role of Scales,” Land Economics, 71(1) 56-65, 1996.

3.0 CONCEPTS OF VERTICAL AND HORIZONTAL SEPARATION IN THE MARKETS

3.1 Theory (integration determinants) and Applications

*Madrid-Aris, Manuel. Market Design of Market Segmentation and Competition Rules in Solid Waste Management in Panama,” summary of finding from report done for Ministry of Finance, Panama, February, 2000.

Madrid-Aris, Manuel, Technical Notes about Water and Wastewater Sector.

4.0COMPETITION AND REGULATION OF PUBLIC UTILITIES

4.1 Forms and Competition Policies in Public Utilities

*Madrid-Aris, Manuel. Public Utilities Functional Categories and Potential Competition,” Technical Notes, 1999. Ordover, Janus, R. Pittman, and P. Clandde, “Competition Policy for Natural Monopolies in a Developing Market Economies,” Economics of Transition, 2(3), 317-343, 1994.

Helm, Dieter and Tim Jenkinson, “The Assessment: Introducing Competition into Regulated Industries,” Oxford Review of Economic Policy, Vol 13, No 1, 1997

4.2 Competition and Regulation of the Water and Sewage Sector:

*Madrid-Aris, Manuel. “Regulation and Privatization of Water and Waste-water Systems: implications for Chilean privatization,” Jornadas Hidraúlicas, Catholic University, Santiago, Chile, 1998.

Cowan, Simon, “Competition in the Water Industry,” Oxford Review of Economic Policy, Vol. 13, 1997.

4.3 Competition and Regulation of Solid Waste Sector

* Madrid-Aris, Manuel. “Different Private Sector Participation in Solid Waste Management,” working paper, 2000.

4.4 Competition and Regulation of the Electricity Sector:

*Kahn, Edward. Competition Issues in the Electricity Sector. Research prepared for the Bureau of Competition Policy (Canada), 1994.