What is the dilemma of regulation in the case of a regulated monopoly?

Question

What will be an ideal response?

Answer 1

When price is set equal to marginal cost to achieve the most efficient allocation of resources there will be a lower price and greater level of output. The regulated monopoly, however, is likely to realize an economic loss with this socially optimal price and require a subsidy from government. In contrast, a “fair-return” price where price equals average cost produces no profits or losses for the regulated monopolist, but results in less output and a higher price than under the socially optimal price. The regulatory body must make a decision about whether to subsidize a monopolist charging the socially optimal price, or accept less output or under allocation of resources and a higher price that results from the fair-return pricing policy.