MULTI-FIRM REGULATION WITHOUT LUMP-SUM TAXES

This paper considers a problem of multi-firm regulation where the regu lator cannot make monetary transfers to or from firms. Otherwise, the set-up is standard; two firms charging two-part tariffs sell in separa te markets, and marginal costs are private information. Without transf ers, the regulator faces an additional consumer participation constrai nt that the representative consumer must wish to participate in the ma rket in all states. The paper studies the second-best optimal regulato ry scheme that respects this constraint, and shows that it has some su rprising properties: (i) the regulator may wish to drive informational rents down to zero even at the cost of some price distortion; (ii) co nsumer surplus may be zero in some states; and (iii) the price that on e firm charges is decreasing in the other's cost.