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The B.E. Journal of Economic Analysis & Policy

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Volume 15, Issue 1 (Jan 2015)

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The Signaling Role of Subsidies

Félix Muñoz-Garcia
  • Corresponding author
  • School of Economic Sciences, Washington State University, 111C Hulbert Hall, Pullman, WA 99164, USA
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/ Ana Espinola-Arredondo
Published Online: 2014-09-13 | DOI: https://doi.org/10.1515/bejeap-2013-0134

Abstract

This paper investigates the effect of monopoly subsidies on entry deterrence. We consider a potential entrant who observes two signals: the subsidy set by the regulator and the output level produced by the incumbent firm. We show that not only a separating equilibrium can be supported, where information about the incumbent’s costs is conveyed to the entrant, but also a pooling equilibrium, where the actions of regulator and incumbent conceal the monopolist’s type, thus deterring entry. We demonstrate that the regulator strategically designs subsidies to facilitate, or hinder, entry deterrence, depending on which outcome yields the largest social welfare. Furthermore, we compare equilibrium welfare relative to two benchmarks: complete-information environments and standard entry-deterrence games where the regulator is absent.

This article offers supplementary material which is provided at the end of the article.

Keywords: entry deterrence; signaling; monopoly subsidies

JEL Classification: D82; H23; L12

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About the article

Published Online: 2014-09-13

Published in Print: 2015-01-01


Citation Information: The B.E. Journal of Economic Analysis & Policy, ISSN (Online) 1935-1682, ISSN (Print) 2194-6108, DOI: https://doi.org/10.1515/bejeap-2013-0134.

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