Luck Out or Outpay? Competing with a Public Option

TL;DR

This paper studies how a profit-driven monopolist interacts strategically with a capacity-limited public option, revealing counterintuitive effects of capacity expansion on prices and consumer welfare.

Contribution

It introduces a game-theoretic model of monopolist-public option interactions and derives conditions where capacity expansion benefits all buyers.

Findings

Expanding public capacity can increase monopoly prices.

Rationing by the monopolist can boost consumer willingness to pay.

Conditions are identified under which all buyer types gain from capacity increases.

Abstract

This paper analyzes the strategic interactions between a profit-maximizing monopolist and a free, capacity-constrained public option. By restricting its own supply, the monopolist intentionally congests the public option and induces rationing, which increases consumers' willingness to pay for guaranteed access. Counterintuitively, expanding the public option's capacity may raise the monopoly price and lower consumer welfare. However, I derive conditions under which all buyer types benefit from a capacity expansion, and extend these results to a setting where an oligopoly competes with a public option. These findings have implications for mixed public-private markets, such as housing, education, and healthcare.