Privatization, Underpricing, and Welfare in the Presence of Foreign Competition

Arghya Ghosh (Lead Author), Manipushpak Mitra (Lead Author), Bibhas Saha

Research output: Contribution to journalArticlepeer-review

10 Citations (Scopus)
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Abstract

We analyze privatization in a differentiated oligopoly setting with a domestic public firm and foreign profit-maximizing firms. In particular, we examine pricing below marginal cost by the public firm, the optimal degree of privatization, and the relationship between privatization and foreign ownership restrictions. When market structure is exogenous, partial privatization of the public firm improves welfare by reducing public sector losses. Surprisingly, even at the optimal level of privatization, the public firm's price lies strictly below marginal cost, resulting in losses. Our analysis also reveals a potential conflict between privatization and investment liberalization (i.e., relaxing restrictions on foreign ownership) in the short run. With endogenous market structure (i.e., free entry of foreign firms), partial privatization improves welfare through an additional channel: more foreign varieties. Furthermore, at the optimal level of privatization, the public firm's price lies strictly above marginal cost and earns positive profits.
Original languageEnglish
Pages (from-to)433-460
Number of pages28
JournalJournal of Public Economic Theory
Volume17
Issue number3
Early online date4 May 2015
DOIs
Publication statusPublished - Jun 2015

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