Pricing Decisions of Regulated Firms: A Behavioral Approach

Abstract

Once the prices for utility service are set by state regulatory authorities, they remain at fixed levels until they are officially increased or decreased by the regulatory agency. A utility company is not free to vary the prices of its service independently. This paper presents the results of an attempt to specify and estimate a behavioral model of the pricing decisions of regulated firms. The "threshold" behavior of regulated firms with regard to their decisions to seek general price increases from state regulatory authorities and their decisions to file "voluntary" price decreases is discussed, and two decision equations are specified and then estimated for regulated electric utilities in New York State. The decision to file for a price increase is shown to depend on the growth rate of earnings per share achieved by the firm in the current and previous year, on the level of interest coverage realized in the current year, and on a variable which measures prior expectations of success in the hearing room. The decision to file a voluntary price decrease is shown to depend on the growth rate in earnings per share and a variable which measures the expectations of "forced" regulation.

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