Deregulation with Consensus

We analyze the problem of eliminating an inefficient regulation, such as protection, in a dynamic model in which there is incomplete information and unanimous approval from all parties involved is necessary. Existing firms have heterogeneous cost, and efficiency requres some of them to shut down when the inefficient regulation is eliminated. The government can set up a revelation mechanism, giving subsidies and requiring firms to exit the market at a given time depending on the information collected. Under full commitment the optimal policy prescribes that some inefficient firms remain active and are subsidized. The optimal policy takes a simple form, with at most two times at which the firm are allowed to exit. ∗We are very grateful to Matt Mitchell whose comments substantially improved the paper. †Department of Economics, State University of New York at Stony Brook, and Dipartimento di Scienze Economiche, Aziendali e Statistiche, Università Statale di Milano. E-mail: [email protected]. §Department of Economics, University of California at Los Angeles. E-mail: [email protected].