Economic Research Institute Study paper
Utah State University
Private electric and telephone utilities in the United States are regulated on a rate of return on capital basis. For many years, students of regulation have argued that this type of regulation does not provide utilities with any incentive to be efficient in their provision of service. In 1962, Harvey Averch and Leland Johnson provided analytical support for the proposition that such regulation tends to result in inefficient production. Averch and Johnson demonstrate that the firm subject to a regulatory constraint has an incentive to use more capital in production than would be the case if costs were to be minimized.
Petersen, H. Craig, "The Allowed Rate Vs the Marginal Cost of Capital in a Public Utility Rate Case" (1974). Economic Research Institute Study Papers. Paper 351.