Investment Incentives and Market Power: An Experimental Analysis

49 Pages Posted: 30 Mar 2006

See all articles by Dean V. Williamson

Dean V. Williamson

Independent

Céline Jullien

INP Grenoble, ENSGI

L. Lynne Kiesling

Carnegie Mellon University - Department of Engineering and Public Policy; Knowledge Problem LLC

Carine Staropoli

Université Paris I Panthéon-Sorbonne

Date Written: January 2006

Abstract

We examine investment incentives and market power in an experimental market. We characterize market power as the strategic interdependence of subjects' investment decisions and output decisions. The market is designed so that investment and output decisions can be jointly characterized as strategies within a game. A Nash-Cournot equilibrium of the game provides a way of characterizing how investment incentives and market power interact. Subjects could invest in two different production technologies and could produce output to serve as many as two different demand conditions. The technologies were analogous to "baseload" capacity and "peaking" capacity in wholesale electricity markets. The Nash-Cournot benchmark constituted a good indicator of subjects' output decisions in that output cycled around the Cournot benchmark. Thus, on average, consumers extracted the surplus available to them in the equilibrium. While we do not observe Edgeworth Cycles in prices or outputs, we do see them in the producer surplus series. Producers dissipated some of the surplus they could have extracted in the equilibrium by overinvesting in peaking capacity and underinvesting in baseload capacity. Inefficient investment diminished total system efficiency, but producers' investments in total production capacity tracked the Nash-Cournot benchmark. In contrast, monopoly explanations such as collusion do not characterize the data.

Keywords: Capacity investment, Cournot, supply function equilibrium, Edgeworth Cycles, market power, electricity markets, investment incentives

JEL Classification: C92, D43, C72

Suggested Citation

Williamson, Dean V. and Jullien, Celine and Kiesling, L. Lynne and Staropoli, Carine, Investment Incentives and Market Power: An Experimental Analysis (January 2006). Available at SSRN: https://ssrn.com/abstract=892598 or http://dx.doi.org/10.2139/ssrn.892598

Dean V. Williamson (Contact Author)

Independent ( email )

Washington, DC
United States

Celine Jullien

INP Grenoble, ENSGI ( email )

46 avenue Félix Viallet
38031 Grenoble cedex 1
France

L. Lynne Kiesling

Carnegie Mellon University - Department of Engineering and Public Policy ( email )

Baker Hall 129
5000 Forbes Avenue
Pittsburgh, PA 15213
United States

Knowledge Problem LLC ( email )

Chicago, IL 60613
United States

HOME PAGE: http://www.lynnekiesling.com

Carine Staropoli

Université Paris I Panthéon-Sorbonne ( email )

12, place du Panthéon
Paris, IL
France

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