A Theory of Yardstick Competition
Volume: Volume 16, No. 3
Issue: Autumn 1985
Pages: pp. 319-327
Authors: Andrei Shleifer
Title: A Theory of Yardstick Competition
Abstract: In the typical regulatory scheme a franchised monopoly has little incentive to reduce costs. This article proposes a mechanism in which the price the regulated firm receives depends on the costs of identical firms. In equilibrium each firm chooses a socially efficient level of cost reduction. The mechanism generalizes to cover heterogeneous firms with observable differences. Medicare's prospective reimbursement of hospitals by using diagnostically related groups is a scheme very similar to the one outlined here.
JEL Classification
Market Structure: Industrial Organization and Corporate Strategy (6110)
Economics of Regulation (6190)
Economics of Health including medical subsidy programs (9130)