ON PRICING WTI 1 I LUMPY INVESTMENT : * Two Problems of Boiteux

"Lumpy" increments to capital stock are warranted by increasing returns to plant construction. Following Boiteux, we attempt to reconcile the resulting double mismatch between capacity and demand, and between revenue and cost. Ignoring the budget problem at first, we derive conditions for optimal prices and for the optimal size and frequency of investment projects. Price is set at marginal operating cost and results in steady inflation which ends as price plummets at the start of the next investment cycle. The optimal policy is shown to create a persistent revenue shortfall which leads us to consider the budget--constrained welfare problem. Price then obeys the Ramsey-Boiteux inverse-elasticity rule at each instant. The second-best policy also implies that, roughly speaking, production is more capital intensive. Finally we evaluate the performance of policies of delegating pricing or investment control to the firm. * I thank Paul Romer for his written comments on the first draft of this paper without implicating him in my errors. A recent version was presented at the Econometric Society European Meetings in Copenhagen, August 1987, and at the 14th annual conference of the European Association for Research in Industrial Economics in Madrid, September 1987.