<scp>Quality and Location Choices under Price Regulation</scp>

TLDR

The study analyzes equilibrium outcomes in spatial competition markets with exogenous product prices. The authors extend the Hotelling model, letting firms choose location and quality while deriving the regulator‑set optimal price. When the regulator commits to a price before location decisions, the resulting price over‑invests in quality and under‑differentiates locations, whereas with only partial commitment the price yields optimal quality but over‑differentiates locations.

Abstract

In a model of spatial competition, we analyze the equilibrium outcomes in markets where the product price is exogenous. Using an extended version of the Hotelling model, we assume that firms choose their locations and the quality of the product they supply. We derive the optimal price set by a welfarist regulator. If the regulator can commit to a price prior to the choice of locations, the optimal (second‐best) price causes overinvestment in quality and an insufficient degree of horizontal differentiation (compared with the first‐best solution) if the transportation cost of consumers is sufficiently high. Under partial commitment, where the regulator is not able to commit prior to location choices, the optimal price induces first‐best quality, but horizontal differentiation is inefficiently high.