Price versus Output Regulation under Asymmetric Information on Demand
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In his seminal paper of 1974 Weitzman compares the performance of price control and quantity control when there is uncertainty about the level of costs. He shows that the preferred policy instrument depends on the relative slope of the marginal benefit and cost curves. In this paper we investigate the role that uncertainty on the benefit function plays in the determination of the optimal instrument of control. In particular, we consider a market characterised by volatile demand, where its realisation is a private information of the regulated firm. We show that price regulation results in lower prices and informative rents thus providing an overall higher level of expected welfare than output regulation.