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Byline: Yongmin Chen (a), David E.M. Sappington (b)
Innovation; Regulation; Input prices; Vertical integration
We examine the optimal design of regulated input prices, accounting
explicitly for their impact on incentives for process innovation.
Optimal input prices are shown to vary both with the prevailing vertical
industry structure and with the nature of downstream competition. The
optimal input pricing rule tends to provide stronger incentives for
innovation under vertical integration than under vertical separation in
the presence of downstream Cournot competition. The stronger incentives
tend to be implemented under vertical separation in the presence of
downstream Bertrand competition.
(a) Department of Economics, University of Colorado, Boulder, CO
80309, United States
(b) Department of Economics, University of Florida, PO Box 117140,
Gainesville, FL 32611, United States
Received 20 December 2007; Revised 29 October 2008; Accepted 30
(footnote) [star] We thank the co-editor, two anonymous referees,
and Anil Arya for very helpful comments and suggestions. We thank Mircea
Marcu for excellent research assistance.