Regulatory governance and Chile's 1998-99 electricity shortage

In the early 1980s Chile reformed its electricity sector, introducing a regulatory framework that became influential worldwide. But in 1998 and 1999 La Ni?a brought one of the worst droughts on record, causing a price system collapse, random power outages, and three-hour rotating electricity cuts. The authors study the interaction between regulatory incentives and governance during the 1998-99 electricity shortage, showing that the supply restriction could have been managed without outages. The shortage can be blamed on a rigid price system, which was unable to respond to large supply shocks, and on deficient regulatory governance, which led to a weak regulator unable to make the system work. The authors also show that the regulator's weakness stemmed not from lack of formal powers but from vulnerability to lobbyists and a lack of independence. Moreover, the regulator seems not to have fully understood the incentives in the price system during supply restrictions. The authorsconclude that the Chilean shortage shows the limitations of a rigid price system requiring heavy regulatory intervention. This suggests that countries whose governance structures are ill suited to dealing with loopholes left by the law should rely as much as possible on market rules that clearly allocate property rights ex ante and leave the terms of contracts to be freely negotiated by private parties.Water Conservation,Environmental Economics&Policies,Economic Theory&Research,Markets and Market Access,Labor Policies,Environmental Economics&Policies,Markets and Market Access,Access to Markets,Economic Theory&Research,Montreal Protocol

Competition In or For the Field: Which Is Better?

A principal, who wants prices to be as lowas possible, contracts with agents who would like to charge the monopoly price. The principal chooses between a Demsetz auction, which awards an exclusive contract to the agent bidding the lowest price (competition for the field) and having two agents provide the good under (imperfectly) competitive conditions (competition in the field). We obtain a simple sufficient condition showing unambiguously which option is best. The condition depends only on the shapes of the surplus function of the principal and the profit function of agents, and is independent of the particular duopoly game played ex post. We apply this condition to three canonical examples -- procurement, royalty contracts and dealerships -- and find that whenever marginal revenue for the final good is decreasing in the quantity sold, the principal prefers a Demsetz auction. Moreover, a planner who wants to maximize social surplus also prefers a Demsetz auction.Demsetz auction, Double marginalization, Franchising, Joint vs. separate auctions, Monopoly, Procurement, Dealerships, Royalty contracts

Highway Franchising and Real Estate Values

It has become increasingly common to allocate highway franchises to the bidder that offers to charge the lowest toll. Often, building a highway increases the value of land held by a small group of developers, an effect that is more pronounced with lower tolls. We study the welfare implications of highway franchises that benefit large developers, focusing on the incentives developers have to internalize the effect of the toll they bid on the value of their land. We study how participation by developers in the auction affects equilibrium tolls and welfare. We find that large developers bid more aggressively than construction companies that own no land. As long as land ownership is sufficiently concentrated, allowing developers in the auction leads to lower tolls and higher welfare. Moreover, collusion among developers is socially desirable. We also analyze the case when the franchise holder can charge lower tolls to those buying her land (`toll discrimination'). Relative to uniform tolls, discrimination decreases welfare when land is highly concentrated, but increases welfare otherwise. Finally, we consider the welfare implications of subsidies and bonuses for proposing new highway projects.

How to Auction an Essential Facility When Underhand Integration is Possible

Regulating seaports is difficult in general, even more so for the weak regulatory institutions common in developing countries. For this reason some countries have awarded these facilities via Demsetz auctions, to the port operator that bids the lowest cargo-handling fee. A major concern with Demsetz auctions in this context, is that the winning operator may integrate with a shipper and monopolize the shipping market, by worsening the service quality for competing shippers. The standard policy recommendation against service quality discrimination is to ban the seaport from operating in the shipping market. The effectiveness of such prohibitions is suspect, however, because they can be circumvented by an (illegal) underhand agreement between the port operator and the shipper. In this paper we show that a ban on integration increases welfare if it is combined with a (sufficiently high) floor on the cargo-handling fee that operators can bid in the auction. In the absence of such a floor, however, a Demsetz auction is worse than no regulation at all of the bottleneck monopoly. Our results apply beyond the port and shipping markets, to any essential facility that can monopolize a downstream market. The results only require that profits with underhand vertical integration agreements be less than with legal vertical integration.auctions, ex ante vs. ex post rents, Demsetz auctions, hidden action, monopoly regulation, productive efficiency, vertical integration

Highway Franchising and Real Estate Values

It has become increasingly common to allocate highway franchises to the bidder that offers to charge the lowest toll. Often, building a highway increases the value of land held by a small group of developers, an effect that is more pronounced with lower tolls. We study the welfare implications of highway franchises that benefit large developers, focusing on the incentives developers have to internalize the effect of the toll they bid on the value of their land. We study how participation by developers in the auction affects equilibrium tolls and welfare. We find that large developers bid more aggressively than construction companies that own no land. As long as land ownership is sufficiently concentrated, allowing developers in the auction leads to lower tolls and higher welfare. Moreover, collusion among developers is socially desirable. We also analyze the case when the franchise holder can charge lower tolls to those buying her land ('toll discrimination'). Relative to uniform tolls, discrimination decreases welfare when land is highly concentrated, but increases welfare otherwise. Finally, we consider the welfare implications of subsidies and bonuses for proposing new highway projects.Demsetz auctions, highway concessions, private participation in infrastructure

Renegotiation Without Holdup: Anticipating Spending and Infrastructure Concessions

Infrastructure concessions are frequently renegotiated after investments are sunk, resulting in better contractual terms for the franchise holders. This paper offers a political economy explanation for renegotiations that occur with no apparent holdup. We argue that they are used by political incumbents to anticipate infrastructure spending and thereby increase the probability of winning an upcoming election. Contract renegotiations allow administrations to replicate the effects of issuing debt. Yet debt issues are incorporated in the budget must be approved by Congress and are therefore subject to the opposition’s review. By contrast, under current accounting standards the obligations created by renegotiations circumvent the budgetary process in most countries. Hence, renegotiations allow incumbents to spend more without being subject to Congressional oversight.Build-Operate-and-Transfer (BOT), Concessions, Renegotiation, Public-Private Partnerships

Competition In or For the Field: Which is Better

In many circumstances, a principal, who wants prices to be as low as possible, must contract with agents who would like to charge the monopoly price. This paper compares a Demsetz auction, which awards an exclusive contract to the agent bidding the lowest price (competition for the field) with having two agents provide the good under (imperfectly) competitive conditions (competition in the field). We obtain a simple sufficient condition showing unambiguously which option is best. The condition depends only on the shapes of the surplus function of the principal and the profit function of agents, and is independent of the particular duopoly game played ex post. We apply this condition to three canonical examples procurement, royalty contracts and dealerships and find that whenever marginal revenue for the final good is decreasing in the quantity sold, a Demsetz auction is best. Moreover, a planner who wants to maximize social surplus also prefers a Demsetz auction.Demsetz auction, double marginalization, franchising, joint vs. separate auctions, monopoly, procurement, dealerships, royalty contracts

How to Auction an Essential Facility When Underhand Integration Is Possible

Regulating seaports is difficult in general, even more so for the weak regulatory institutions common in developing countries. For this reason some countries have awarded these facilities via Demsetz auctions, to the port operator that bids the lowest cargo-handling fee. A major concern with Demsetz auctions in this context, is that the winning operator may integrate with a shipper and monopolize the shipping market, by worsening the service quality for competing shippers. The standard policy recommendation against service quality discrimination is to ban the seaport from operating in the shipping market. The effectiveness of such prohibitions is suspect, however, because they can be circumvented by an (illegal) underhand agreement between the port operator and the shipper. In this paper we show that a ban on integration increases welfare if it is combined with a (sufficiently high) floor on the cargo-handling fee that operators can bid in the auction. In the absence of such a floor, however, a Demsetz auction is worse than no regulation at all of the bottleneck monopoly. Our results apply beyond the port and shipping markets, to any essential facility that can monopolize a downstream market. The results only require that profits with underhand vertical integration agreements be less than with legal vertical integration.Auctions, ex ante vs. ex post rents, Demsetz auctions, hidden action, monopoly regulation, productive efficiency, vertical integration

The Basic Public Finance of Public-Private Partnerships

Public-private partnerships (PPPs) cannot be justified because they free public funds. When PPPs are desirable because the private sector is more efficient, the contract that optimally trades demand risk, user-fee distortions and the opportunity cost of public funds is characterized by a minimum revenue guarantee and a cap on the firm's revenues. Yet income guarantees and revenue sharing arrangements observed in practice differ fundamentally from those suggested by the optimal contract. The optimal contract can be implemented via a competitive auction with realistic informational requirements; and risk allocation under the optimal contract suggests that PPPs are closer to public provision than to privatization.Bundling, cost of public funds, subsidies, minimum revenue guarantees,revenue and profit caps, Demsetz auctions