A monopolist under rate of return regulation has an incentive to
A)pad costs.
B)produce more than the efficient quantity of output.
C)charge a price equal to marginal cost.
D)maximize consumer surplus.
E)maximize shareholder profits

Question

Quizplus · Accepted Answer

Under rate of return regulation, the regulator sets a rate of return that the monopolist is allowed to earn on their investments. This creates an incentive for the monopolist to increase their costs in order to justify a higher rate of return. By padding their costs, they can increase their allowed profits without increasing their actual level of investment. Therefore, the monopolist has an incentive to pad costs.

A Monopolist Under Rate of Return Regulation Has an Incentive