ENTRY, PRICES, AND INVESTMENT IN REGULATED INDUSTRIES

The paper studies how the optimal regulatory policy is affected by the possibility of unregulated firms entering the market. In such cases, the regulator may prefer to limit price and cost reductions in the reg ulated incumbent. The extent to which this happens is shown to depend on the extent of the regulator's commitment: if it commits to a chosen policy, then the market outcome following entry is less competitive t han it would be without commitment: price and production costs are bot h higher. We also show that, unlike the natural monopoly case, incenti ves for cost reducing investment are stronger when the regulatory poli cy has a short regulatory interval.