1. ECO 435 – Natural Monopoly Problem David Loomis

2. Fundamental Goal of Regulation • To mimic a competitive market outcome even when the underlying market is not competitive • “other goals” • Fair and just rates • Specific policies regulators believe to be in customers’ best interests • Universal service • Affordability • Economic development

3. Competitive Ideal • Maximizes the sum of consumer and producer surplus • Productive and allocative efficiency

4. Factors that Preclude a Competitive Outcome • Natural Monopoly • Firms builds pipeline costing $365 million with capacity of 1 million cubic meters; has to repay $36.5 million/yr • If it transports 100 cubic meters per day, AC=$1,001/cubic meter • If it transports 1,000 cubic meters per day, AC=$101/cubic meter • Also AC of building pipe decreases as size of pipe increases/cost=circumference, production=volume • Barriers to entry

5. Other Complicating Factors • Uncertainty about costs – imperfect information • Other regulatory interventions – Renewable Portfolio Standards (RPS) – increasing costs

6. B&T 2.1, 2.2 and 2.5 • See Notes