Quality competition with profit constraints: Do non-profit firms provide higher quality than for-profit firms?

Posted by D. Daniel Sokol

Kurt R. Brekke (Dept. of Economics, Norwegian School of Economics and Business Administration), Luigi Siciliani (University of York), Odd Rune Straume (University of Minho) ask Quality competition with profit constraints: Do non-profit firms provide higher quality than for-profit firms?

ABSTRACT: In many markets, such as education, health care and public utilities, firms are often profit-constrained either due to regulation or because they have non-profit status. At the same time such firms might have altruistic concerns towards consumers. In this paper we study semi-altruistic firms’ incentives to invest in quality and cost-reducing effort when facing constraints on the distribution of profits. Using a spatial competition framework, we derive the equilibrium outcomes under both quality competition with regulated prices and qualityprice competition. Profit constraints always lead to lower cost-efficiency, whereas the effects on quality and price are ambiguous. If altruism is high (low), profit-constrained firms offer higher (lower) quality and lower (higher) prices than firms that are not profit-constrained. Compared with the first-best outcome, the cost-efficiency of profit-constrained firms is too low, while quality might be over- or underprovided. Profit constraints may improve welfare and be a complement or substitute to a higher regulated price, depending on the degree of altruism.