Lobbies, Delegation and the Under-investment Problem in Regulation

Regulatory uncertainty often results in under-investment especially where there are high sunk costs in utilities such as electricity, gas and telecommunications. To ensure security of supply in these industries timely and socially optimal investment is of the essence. A new perspective is provided on the under-investment problem in the regulation of a firm with market power. We compare a political equilibrium based on a voting model with lobbying with a delegation equilibrium, where a government can delegate to a particular ‘type’ of proor anti-industry regulator. Our analysis suggests two possible and essentially equivalent ways in which we may observe price regulation that encourages socially optimal investment: first, there is less than total electoral transparency in which voters receive an optimal amount of information and second, the decisions on price are delegated to a sufficiently, but not excessively, pro-industry regulator. JEL Classification: L51