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A growing trend for regulating natural monoplies is the use of incentive regulation. A) Describe how incentive regulation works to improve efficiency in the market. B) Describe how the company can benefit from incentive regulation. C) Discuss common problems that might exist with incentive regulation.

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Martebi

The government is known to regulate monopolies through Price capping where they reduce price increases.

A.   How incentive regulation works to improve efficiency in the market;

Incentive regulation is uses via regulatory tools, price setting regimes along with some self incentives. The efficiency improvement by incentive regulation is done through controllable costs, benchmarking and the setting of performance targets associated with both rewards and penalties.

Incentive regulation is the known way of conducting price level regulation. It also improves efficiency as it hinders or mitigate revenue erosion as it measures both inputs and outputs.

B. How the company can benefit from incentive regulation.

The benefits of the company is that it makes a lot of opportunities available for maximizing earnings via internal efficiency methods such as reduction in both capital and operating expenditures.

C. The common problems that might exist with incentive regulation.

Incentives regulation often brings about a number of challenges, such as;

  • Holding or maintaining incentives for cost reduction and still adjusting prices to underlying costs.  Prices need to be set so that the regulated firm benefits from cost reduction.
  • It makes sure that firms have a good amount of assurance of cost-recovery, while limiting the length for “gold-plating as a result of set out or guaranteed returns on investment. In this way, organizations will only invest if sunk costs can be gotten back via retained cost savings.
  • It makes sure that operators do not jump on quality.

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