UCL Discovery

Abstract

This paper analyzes profit-maximizing nonlinear pricing by a firm that is subject to price cap regulation. Two forms of regulatory constraint are considered: (1) a cap on the firm's average revenue, and (2) a constraint that the firm must continue to offer each consumer the option of buying at the uniform price. Optimal nonlinear price schedules in these regimes are shown to have simple characterizations that are related to the nonlinear tariffs that an unregulated monopolist would charge. Of the regulatory regimes, the firm prefers the average revenue constraint to the option constraint and likes uniform pricing least. Consumers in aggregate prefer the option regime to uniform pricing and like the average revenue constraint least, but there are also distributional effects between consumers. Although the optional tariff regime Pareto dominates uniform pricing, it is ambiguous whether welfare is higher under uniform pricing or under the average revenue regime. An example is used to illustrate the nature of the ambiguity.