In a recent article in this Review, M. L. Greenhut and H. Ohta (G-O) demonstrated that a spatial monopolist who adopts a spatially discriminating price would produce a larger output than under a mill price policy. They raise, without elaboration, the possibility that this larger output corresponds to a greater level of net benefits. The purpose of this paper is to examine a model in which the net benefits of both price policies can be measured and to extend the discussion to the case of competition for market areas-called spatial monopolistic competition in location theory (see Martin Beckmann 1968, 1970, 1971). Section I introduces a model, somewhat simpler than that of G-O, in which the basic result of G-O can be derived and the welfare effects of the two policies can be measured. Here it is found that when there is no significant competition for the firm's market area, spatial price discrimination results in firms producing larger output, serving larger market areas, and promoting greater net benefits than under a mill price policy. Section II then considers spatial monopolistic competition in which extra normal profits invite invasion of market areas. It is shown that the equilibrium firm output and market area will be smaller under spatial price discrimination than under mill pricing and that if price discrimination is allowed, firms will be forced by free entry to adopt that policy. It is also shown that customers buy more when spatial price discrimination is imposed than under mill pricing, but that they are worse off-greater net benefits are derived under mill pricing.

The typical industrial organization economist interested in examining the behavior of firms in market environments characterized by small numbers does not approach his task with any unified set of analytical tools which one could call the theory of oligopoly. Instead, he comes armed with a whole smorgasbord of formal models, ad hoc models, case-study information, and vague notions concerning the impact of business psychology and sociology. The various theories, whether they be formal or informal, are based on a bewildering collection of a priori behavioral assumptions, formal mathematics, hard case-study information, casual empiricism, hand waving, and as much as possible of the traditional theory of the atomistic competitive firm. For those of us interested in public policy analysis this state of affairs is troublesome. On the onie hand, many of the interesting policy issues arise in markets dominated by a small number of large firms and therefore some viable alternative to the competitive model is desirable. On the other hand, existing formal models often do not provide a useful framework for policy analysis. This essay proceeds by briefly reviewing the formal models which appear to make up the corpus of formal oligopoly theory. These models are then evaluated in terms of their ability to generate testable hypotheses that can differentiate oine model from the next and oligopoly behavior from competitive market behavior, as well as the usefulness of these models in the analysis of particular markets and particular public policies. I conclude that there is little qualitative difference in the implications associated with most of the models, but, more importantly, that the formal models are not really utilized by serious students of actual markets and public policies. Rather, the important characteristic of much of this applied work is the use of informal models, stories, the consideration of particular decision-making processes, situation-specific consideratioins of uncertainty, information costs, other transactions costs, and various institutional constraints. Since it appears that the important characteristics of oligopoly behavior are not captured by conventional models, some suggestions for further research which deals more explicitly with the behavior associated with the oral tradition of industrial organization are given; specifically, more careful analysis of actual firm decision-making processes and the phenomena which determine them is called for.

I find myself in a situation like that of Moliere's M. Jourdain who was surprised to learn that he spoke prose. I am surprised to learn that-according to Maurice Allais, at least-I commit paralogisms. If all I wanted to do was dispute that, I would not take up space with this rejoinder; the law of diminishing returns applies with special force to these running controversies. The problem is, however, that Allais does not address himself directly to my criticism, and I think the criticism is important because it is fundamental. My point was a methodological one: that the tests of Allais' theory are probably quite weak. Allais' skirting of this point is unfortunate for two reasons. The first is that one might get the idea, from reading his reply, that his hereditary and relativistic formulation of the demand for money was under attack. The second is that one might think that he provides confirmation of his theory when I think that a careful scrutiny of his test procedures suggests otherwise. On the first point, nothing was further from my mind when I wrote my comment than an attack on the ideas in the hereditary and relativistic formulation of the demand for money. Quite the opposite was the case. I had then, and I continue to have, nothing but admiration for Allais' theory, which I think is original and may ultimately prove fruitful. I addressed myself only to the second point. The nub of the problem is that, in going from theoretical to empirical specification, Allais introduced an approximation which very likely robbed his tests of much power. That approximation consists of using velocity as a measure of the rate of forgetfulness (1966, p. 1135, equations (2.38) and (2.41)). That means that the estimated coefficient of psychological expansion' is a function, among other things, of past velocity. Since that coefficient is used to predict velocity, Allais' testing comes down to estimating velocity as function of its past. It could come perilously close, in other words, to estimating velocity as an autoregressive process. And if that is true, the test of the structural content of the theory is minimal. Allais' characterization of the above argument is that I accuse him of circularity. That is simply not true. What I suggest is that his tests have little power against the naive alternative of an autoregressive specification for velocity. It may be that velocity is a good measure of the rate of forgetfulness. But I have serious doubts as to whether we are going to be able to test that-or the other parts of the theory by appealing to the behavior of velocity. Allais in fact concedes that his test must be weak, although he does not say so explicitly. He grants that my argument is correct if we can identify measured with desired velocity (what he calls observed and estimated velocity): ... Scadding unfortunatelv fails to make the distinction between the observed and estimated values V and V*. In fact, his mathematical reasonings are valid only if V and v are replaced therein by V* and v* (p. 456). Yet in his original paper, Allais makes the same assumption in deriving the empirical form of his hvpothesis: . . but it can reasonably be suggested that the discrepancy between the actual and the desired value of money holdings is always relatively small. . . . It further follows that it is possible to write as a first approximation . . . (3.2) . .. (3.3) OD . . . * (1966, p. 1138).

Electricity accounts for about 25 percent of the total energy consumed in the United States and its share of total consumption has been increasing slowly. In an effort to decrease the vulnerability of the United States to foreign energy price increases and embargoes, Federal energy policy, particularly as formulated in the Federal Energy Administration Report for Project Independence, would accelerate this trend towards electricity. These policies call for the mandatory conversion of household and commercial heating to electricity and the conversion of oiland gas-burning plants to domestically available coal and uranium. Even without such mandatory controls, consumers may choose more electricity as a result of increases in fuel oil prices relative to electricity prices, or as a result of the shortage of natural gas, or because electricity supply seems more secure. Although Federal policies and consumer choice may shift demands towards electricity, there is no assurance that the additional quantities and mix of generating capacity desired will in fact be forthcoming. The nation's investor-owned utilities (providing over 90 percent of generating capacity) are not likely to be able to raise the required amounts of capital. Increases in construction costs, fuel costs, and interest charges have recently outstripped revenue growth, and expectations that this trend will continue have made utility investments unattractive. The suspicion is that regulatory procedures have recently caused price increases to lag behind cost increases, resulting in earned rates of return below the cost of capital. If this continues, capacity to meet increased demands-and Project Independence, in whatever form-will not be achieved. The purpose of this paper is to assess the financial prospects of the nation's electric utility industry, given existing regulatory institutions and continued high rates of growth of demand in the late 1970's. Shortages from regulation would indeed be a turn of events. Economists' analyses of regulatory effects in the 1960's deplored the behavior of commissions on the grounds that they did nothing to control prices (see G. J. Stigler and C. Friedland and R. Jackson). However, the turn of events would not be entirely surprising; using the behavioral approach in analyzing regulation leads one to suspect that commissions operate relatively independent of economic conditions (see Joskow, 1972). The well-established operating rules of the bureaucracies change only when the results of such procedures under inflation or depression become intolerable (see Joskow, 1974). What may have been ineffective regulation in the 1960's may be overzealous regulation for the late 1970's.