We propose a new approach to production function estimation that integrates the strengths of the proxy-variable (PV) and dynamic panel data (DPD) methods. Our framework augments the set of instruments for the level equation in Blundell and Bond [8] with a Berkson-type instrument motivated by economic theory, following Olley and Pakes [28], Levinsohn and Petrin [24], and Ackerberg et al. [4]. This modification allows unobserved productivity to include both a time-invariant ("fixed-effect") component and a time-varying component that follows a potentially nonlinear Markov process. Whereas the PV approach accommodates nonlinear Markov dynamics but not fixed effects, and the DPD approach accounts for fixed effects but only with linear Markov dynamics, our method relaxes both restrictions. Our estimator is straightforward to implement using GMM. Monte Carlo simulations demonstrate that it outperforms the canonical PV and DPD estimators when productivity persistence is low and fixed-effect heterogeneity is substantial.

In this paper we study the design of renewable energy portfolio standards (RPSs). We focus on solar energy and analyze two common RPS rules: cross-state trading restrictions and state-specific interim annual targets. Using historically observed RPSs and an empirically calibrated model of state-level solar supply curves, we find that allowing for cross-state trading reduces cost by one-fifth and significantly changes the geographic distribution of new solar installations. Removing interim annual targets over the 2015 to 2019 period reduces cost by one-third by back-loading installations to later years. These cost reductions become much larger when considering more ambitious RPS targets. Our results suggest that more flexible program design such as allowing for cross-state trading, back-loading interim targets, or banking and borrowing renewable energy credits can avoid escalating costs and preserve the political feasibility of renewable energy standards, although such cost savings must be balanced against the social damages from delayed climate action and other economic and political considerations. JEL Classification: H23, Q41, Q42, Q48

This article presents new quantitative evidence of the sources of efficiency benefits from deregulation. We estimate the heterogeneous effects of plant divestitures on fuel procurement costs during the restructuring of the U.S. electricity industry. Guided by economic theory, we focus on three mechanisms and find that restructuring reduced fuel procurement costs for firms that (i) were not subject to earlier incentive‐regulation programs, (ii) had relatively strong bargaining power as coal purchasers after restructuring, and (iii) were locked in with disadvantaged coal contracts prior to restructuring.

Empirical work on strategic interactions is often subject to the critique that equilibrium selection assumptions drive the results. We develop a framework for partially identifying parameters of dynamic games without equilibrium selection assumptions. Our framework relies on incentive compatibility constraints that incorporate game theoretical results on equilibrium payoff sets to bound the unknown continuation payoffs. We apply this frame-work to identify cost parameters in three dynamic games where collusion is a potential outcome. The identified set demonstrates the ease of sustaining collusion with patient firms, in low demand and when monitoring is perfect, and can also be used to detect collusion. (c) 2023 Elsevier B.V. All rights reserved.

We examine the inefficiency of uncoordinated environmental regulation of CO2 emissions from electricity generation for a large regional U.S. wholesale electricity market that spans multiple states. We estimate a dynamic structural model of production and investment to compare the social welfare of two counterfactual regulatory scenarios. In both scenarios, emissions targets set by the regulator are met via endogenously determined CO2 prices in markets aiming to correct the externality. In the first scenario, the CO2 prices are statespecific. In the second scenario, there is a regional CO2 price. According to our social welfare estimates, the inefficiency of uncoordinated regulation is mitigated substantially because of the firms' participation in an integrated product market in two main ways. First, firms reallocate output from states with high CO2 prices to states with low prices. Second, this reallocation spurs investment in cleaner capacity that is exempt from CO2 regulation. Our finding regarding the mitigation and, potentially, elimination of the inefficiency is robust to alternative models of optimal investment behavior. (C) 2022 Elsevier B.V. All rights reserved.

I propose a strategy to identify structural parameters in infinitely repeated games without relying on equilibrium selection assumptions. Although Folk theorems tell us that almost any individually rational payoff can be an equilibrium payoff for sufficiently patient players, Folk theorems also provide tools to explicitly characterize this set of payoffs. I exploit the extreme points of this set to bound unobserved equilibrium continuation payoffs and then use these to generate informative bounds on structural parameters. I illustrate the identification strategy using (1) an infinitely repeated Prisoner's dilemma to get bounds on a utility parameter, and (2) an infinitely repeated quantity-setting game to get bounds on marginal cost and provide a robust test of firm conduct.

This paper presents new quantitative evidence of the sources of efficiency benefits from deregulation. In particular, we estimate the heterogeneous effects of plant divestitures on fuel procurement costs during the restructuring of the U.S. electricity industry. Guided by economic theory, we focus on three mechanisms and find that deregulation reduced fuel procurement costs for firms that (i) were not subject to earlier incentive programs, (ii) had relatively strong bargaining power as coal purchasers after deregulation, and (iii) were locked in with disadvantaged coal contracts prior to deregulation.

I empirically measure the welfare gains from optimal incentive regulation in the context of electric utilities facing both emissions and rate of return regulation (RORR). I provide evidence that RORR induces lower fuel efficiency, leading to greater coal consumption and higher emissions abatement costs. Replacing RORR with the optimal mechanism of Laffont and Tirole (1986) yields annual welfare gains of $686 million or a 11% reduction in electricity prices. I construct a much simpler two-contract menu that can achieve more than 65% of these welfare gains.

I propose an estimation procedure that can accommodate fixed effects in the widely used proxy variable approach to estimating production functions. The proposed procedure allows unobserved productivity to have a permanent component in addition to a (nonlinear) Markov shock. In contrast to dynamic panel methods, the procedure does not rely on differencing out the fixed effect and thus is not limited to within-firm variation for identification. Finally, implementation is straightforward since it only entails adding a two stage least squares step using internal instruments.

Using the three-period model from Chapter 2, this chapter explores whether the presence of activists enhances or harms social welfare. Campaigns have both static and dynamic effects which have fairly different but complementary effects on social welfare. The canonical case in which an activist campaign increases welfare involves a firm that cares intensely about protecting itself against reputation loss, an activist that is not excessively passionate, and a campaign aimed at addressing a high-stakes negative externality. A sufficiently high marginal benefit from private regulation is necessary for an activist to be socially beneficial, while campaigns resulting in private regulation that is essentially redistributive necessarily reduce social welfare.

This chapter models the interaction between a firm and activist using an infinite-horizon dynamic stochastic game. The firm enhances its reputation through private regulation, but the firm has an incentive to coast on its reputation by private regulation as its reputation grows. The activist can harm the firm’s reputation through criticism, which impairs the firm’s reputation on the margin, and confrontation, which can trigger a crisis that can severely damage the firm’s reputation. Criticism and confrontational activity are shown to be imperfect substitutes. The more patient the activist, or the more passionate about externality reduction, the more likely the activist is to rely on confrontation. The more patient the firm, the more likely that it will be targeted by an activist that relies on confrontation. The chapter also explores whether the activist might reward the firm with praise.

Inefficiencies from uncoordinated regulation of a negative environmental externality are significantly mitigated when firms participate in an integrated product market. Firms take into account the distribution of externality prices and reallocate output from high to low externality-priced areas, triggering price readjustment, and potentially price convergence. When capacity constraints prevent reallocation, the marginal benefit of investing in new—often more efficient and cleaner capacity—increases, which can be welfare-enhancing. To quantify these effects, we estimate a dynamic structural model of supply and investment using data from a large U.S. wholesale electricity market, and simulate the model under counterfactual CO2 emissions regulations.

This chapter extends the model to include two potential targets for campaigns. Activists targeting firms in different industries are shown to be likely to focus on the firm with the weaker reputation or greater sensitivity to reputation. The latter finding rationalizes the practice of secondary targeting in which an activist targets a consumer-facing company that cares a lot about its reputation rather than the companies in its supply chain creating the harm. In the case of two potential targes in the same industry, the competitive interdependence between the two firms affects the targeting decision. When it is weak—e.g., when firms sell differentiated products—the activist tends to target the firm whose characteristics predispose it to engage in more private regulation than its rival (e.g., the more patient firm, the market leader). When competitive interdependence is strong—as in commodities industries—the activist targets the firm predisposed toward less private regulation.

This chapter introduces a finite-horizon (three-period) model of corporate campaigns in which an activist targets a single firm. The activist cares solely about the social benefits generated by the private regulation the firm is capable of undertaking. A firm can undertake costly effort in each period to improve its reputation in the subsequent period. The activist could undertake costly effort to impair the firm's reputation. As compared to a setting in which the firm faced no activist, the firm chooses a higher level of private regulation in the first period and, in expectation, a higher level of private regulation in the second period as well. The authors interpret this increase as self-insurance against reputational harm. The activist has a strategic effect on the firm in the second period: if the campaign impairs the firm's reputation, the firm will undertake more private regulation than it would have had its reputation remained the same or even improved.

In recent years, many activists have concluded that public processes, such as new legislation, regulatory enforcement, or lawsuits, respond too slowly and can be blocked too easily by special interests. In response they have turned to private politics instead. Private politics refers to actions by private interests, such as activists and nongovernmental organizations (NGOs), that target private agents, typically firms. This chapter describes two key elements of private politics: corporate campaigns and private regulation. It discusses the logic of corporate campaigns, how firms endeavor to respond to them, and empirical evidence on the consequences of campaigns. It then turns to private regulation, and its close counterpart, corporate social responsibility. The chapter raises a puzzle about corporate social responsibility that the models in later chapters will help resolve. The chapter concludes by providing an overview of the remainder of the book.

We show that inefficiencies from uncoordinated regulation of an environmental negative externality are significantly mitigated when firms participate in an integrated product market. Firms take into account the distribution of shadow externality prices and reallocate output to maximize profits. When firms can no longer reallocate output due to capacity constraints, the marginal benefit of investment increases, leading to greater levels of efficient capacity in the long run under incomplete regulation. To quantify these effects, we set-up a dynamic structural model of production and investment, and estimate the model using data from a large wholesale electricity market. We then solve the dynamic model and simulate different counterfactual scenarios where we implement environmental regulations through carbon markets. Despite the lack of the “invisible hand” of a single emissions market, profit-maximizing firms play an important role in coordinating otherwise uncoordinated environmental regulations.

This chapter summarizes each preceding chapter and then offers lessons for scholars and practitioners. Scholars should note the value of dynamic modeling in understanding interactions between activists and firms in the realm of private politics. Activists and firms can use the insights of the model to approach corporate campaigns more strategically. For example, for activists, the framework suggests that efforts aimed at hurting the reputations of firms can do more than serve an ideological aim at making companies look bad, or as a device to threaten harm. Activists can play the role of private regulators when effective public regulation is missing. For leaders of firms, the analysis highlights that corporate social responsibility and other initiatives can serve to enhance a firm’s reputation, but they can also be viewed as a form of risk management in the face of activist pressures that can potentially harm reputation.

Panel and experimental data are used to analyse the economic outcomes in the extended warranty market. We establish that the strong demand and high profits in this market are driven by consumers distorting the failure probability of the insured product, rather than standard risk aversion or sellers’ market power. Providing information to consumers about failure probabilities significantly reduces their willingness to pay for warranties, indicating the important role of information, or lack of, in driving consumers’ purchase behaviour. Such information provision is shown to be more effective in enhancing consumer welfare than additional market competition.

We show that inefficiencies from having separate markets to correct an environmental externality are significantly mitigated when firms participate in an integrated product market. Firms take into account the distribution of externality prices and reallocate output from markets with high prices to markets with low prices. Investment in cleaner and more efficient capacity serves as an additional mechanism to reallocate output, which increases the marginal benefit of investment, and consequently improves longer-term outcomes. Using data from an integrated wholesale electricity market, we estimate a dynamic structural model of production and investment to bound the loss from separate markets for carbon dioxide emissions, and quantify the extent to which optimal investment can compensate for the loss. Despite the lack of the “invisible hand” of a single emissions market, profit-maximizing firms can play a crucial role in coordinating otherwise uncoordinated environmental regulations.

Are separate markets for an externality that inefficient compared to a single market? We study this question in the context of the Clean Power Plan (CPP) in the U.S. and examine the relative economic efficiency of regional versus state-by-state implementation in the Pennsylvania-New Jersey-Maryland (PJM) Interconnection. We show that the potential negative effects of having separate markets for CO2 are mitigated by the fact that firms participate in a single market for electricity, and will optimally make their investment decisions taking into account the distribution of production and CO2 prices across markets. Despite lacking the “invisible hand” of a single market for CO2, profit-maximizing firms implicitly coordinate separate markets via investment in new capacity. ∗Abito: Business Economics and Public Policy Department, Wharton School, University of Pennsylvania abito@wharton.upenn.edu. Knittel: William Barton Rogers Professor of Energy Economics, Sloan School of Management, Director of the Center for Energy and Environmental Policy Research, MIT and NBER, knittel@mit.edu. Metaxoglou: Carleton University, konstantinos.metaxoglou@carleton.ca. Trindade: Getulio Vargas Foundation Graduate School of Economics, andre.trindade@fgv.br. We thank seminar participants at Northwestern, Michigan, AEA 2016, IIOC and ”the 3rd Low-Carbon Markets Workshop” for useful comments. The usual disclaimer applies.