Confusing Fixed and Variable Costs Under Ramsey Regulation
Posted: 10 Jul 1998
Date Written: 1997
Ramsey regulation, in the context of tariff rebalancing, is analyzed when the regulator is not fully informed about the cost structure of the firm. It is shown that even if the estimated relation between variable costs of the two goods produced is correct, errors regarding the composition of a given total cost between fixed and variable elements result in: (1) the price of the good with a higher (lower) elasticity of demand decreasing (increasing) as the estimated fixed cost is higher; and (2) the profits obtained by the regulated firm being lower than intended with whatever mistake is made, such as under or over estimating fixed costs.
JEL Classification: L51
Suggested Citation: Suggested Citation