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| Volume 5, No. 1,
April 2006 |
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A Simple Model of Reliability,
Warranties, and Price-Capping |
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| Donald A. R. George |
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Management School & Economics,
University of Edinburgh, U.K. |
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| Abstract |
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The paper presents a model of
reliability which captures the process by which reliability is
actually determined more accurately than the conventional analysis.
In contrast to that conventional analysis, which is based on the
characteristics approach, the model of this paper defines
reliability as the objective probability of product failure, not as
a characteristic of individual goods. Reliability, thus defined, is
treated as a choice variable of the firm. The resulting model is
applied to a monopolist subject to a price cap. The monopolist can
vary reliability and the terms of a warranty or compensation deal in
response to price-capping. The monopoly outcome, price-capped
monopoly outcome, and Pareto-efficient outcome are compared. The
model provides a theoretical explanation of some empirical results
in the literature on electricity regulation. |
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Key words:
reliability; warranties; price-capping |
| JEL
classification:
L15; L51; M21 |
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