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Consumer Standards as a Strategic Device to Mitigate Ratchet Effects in Dynamic Regulation
Author(s) -
Fiocco Raffaele,
Strausz Roland
Publication year - 2015
Publication title -
journal of economics and management strategy
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.672
H-Index - 68
eISSN - 1530-9134
pISSN - 1058-6407
DOI - 10.1111/jems.12104
Subject(s) - ratchet effect , delegation , ratchet , temptation , allocative efficiency , competition (biology) , consumer welfare , economics , microeconomics , welfare , economic rent , industrial organization , purchasing , business , market economy , operations management , psychology , social psychology , ecology , management , chaotic , biology
Strategic delegation to an independent regulator with a pure consumer standard improves dynamic regulation by mitigating ratchet effects associated with short‐term contracting. A pure consumer standard alleviates the regulator's myopic temptation to raise output after learning the firm is inefficient. Anticipating this tougher regulatory behavior, efficient firms find it less attractive to exaggerate costs. This reduces the need for long‐term rents and mitigates ratchet effects. A welfare standard biased toward consumers entails, however, allocative costs arising from partial separation of the firms' cost types. A trade‐off results, which favors strategic delegation when efficient firms are relatively likely.