On Delegating Price Authority to a Regulated Firm

This article models a regulatory environment in which the regulated firm possesses better information about demand conditions than does the regulator. The regulator would like to tie prices to the firm's private information in a socially optimal way. To do so, the regulator must induce the firm either truthfully to reveal private information or, equivalently, unilaterally to set socially optimal prices. This is accomplished by assessing lump-sum subsidies or taxes that depend in an appropriate way on the prices announced by the firm. This mechanism can be reinterpreted as a two-part tariff scheme whereby both the service fee and price per unit respond to shifting demand conditions.