Yuvraj Pathak, PhD Candidate, University of Chicago Harris School of Public Policy
This paper demonstrates how regulatory uncertainty can cause large welfare losses by distorting firms’ incentives and giving rise to inefficient production. Specifically, I analyze the production decisions of power plants in India that rely on state-regulated supply of coal for fuel. A court-ordered future reallocation of mining contracts in 2014 led to an unexpected increase in uncertainty about future coal supply for a subset of plants while leaving other plants with long-term supply contracts unaffected. I use this quasi-experimental variation in a difference-in-difference framework and a unique dataset linking coal mines and power plants to estimate the effect of future regulatory uncertainty on power production. I show that affected power plants underreport their generation capacity available for power generation and begin stockpiling fuel for future periods. The behavior of these power plants is driven by precaution- ary saving motive, and I provide empirical evidence that power plants began stockpiling coal by reducing consumption, even as the supply of coal remains unchanged. In the short run, this precautionary saving driven stockpiling led to a 7% reduction in electricity generation. The negative impact on power production is persistent and the effects last for over 3 years in the long run. Using data on plants’ marginal cost of production, I compute the short-run welfare cost of this regulatory uncertainty to be between 0.3 and 1.5 billion dollars.
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